Examples of Market Failure
Article #1 - Externalities:
In an effort to reduce lead poisoning in children, the Environmental Protection Agency is
proposing a broad rule requiring contractors working on homes built before 1978 to use
lead-safe work practices.
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The proposal, published Jan. 10 in the Federal Register, would create the first nationwide
requirements covering the way contractors perform routine renovations and clean up
afterward. For any work that could disturb lead-based paint -- including removing
paint, taking down wallpaper or replacing windows -- contractors would have to
take various steps to minimize clients' exposure, including using special vacuums,
sealing off work areas and posting warning signs.
A wider swath of the population has become concerned about the health hazards of lead
paint amid a recent renovation boom, with Americans fixing up hundred-year-old
Victorian homes in gentrifying urban neighborhoods and expanding midcentury splitlevels in the suburbs. Lead poisoning is a potential hazard in any home built before
1978, the year when lead paint was banned. About 65% of current U.S. housing stock
was built before 1978, according to the U.S. Census Bureau. Renovations of older homes
can stir up lead dust that can be ingested or inhaled. Children are particularly vulnerable,
because they absorb lead more readily than adults and are more likely to put dusty hands
in their mouths.
The National Association of Home Builders says some members estimate [the rule could
boost the price of home renovations by 25% for consumers, because of expenses for
insurance, training and equipment. The EPA estimates that the rule would cost the
industry approximately $5 million a year.]
If the rule is finalized in its current form, it could change the way many contractors work.
At least one contractor on a work site would have to be EPA-certified in lead-safe work
practices and would have to train workers on the site. Currently, general contractors
involved in routine remodeling are required under federal law to give families an EPA
pamphlet on how to protect themselves from lead-paint hazards during renovations.
While responsible remodelers usually take steps to minimize dust exposure, like sealing
off the work area, "the average contractor does nothing, because there is no hard and fast
rule on it," says Mike Nagel, president of Remodel One, a Roselle, Ill. design and
remodeling firm. "They just go in and start replacing windows and knocking out walls."
The proposed rule comes as the $500 billion remodeling industry is starting to soften.
According to the most recent data from the Commerce Department, spending on home
improvements was down 4.1% in November from the previous month.
But some homeowners think the rule for contractors is a good idea. After 34-year-old
Leslie Trundy started taking down plaster and removing wallpaper in her 1830s-era home
in Bath, Maine, she decided to have her 15-month-old son tested for lead. Her son's blood
lead levels were at 18 micrograms per deciliter, which health experts consider elevated.
Ms. Trundy has since had a certified lead-abatement firm replace window casings and
doors and seal surfaces to minimize further risk. She says her son's blood levels have
dropped. "It was only after he tested high that I really found out how much danger that
put him in," says Ms. Trundy. "In hindsight, had we known, we would have quarantined
the area off."
More than 300,000 children in the U.S. have elevated levels of lead in their blood,
according to the federal Centers for Disease Control and Prevention. It can affect
children's nervous systems, causing reduced IQ and learning disabilities. In large doses, it
can cause blindness, convulsions and death. Lead exposure in pregnant women can affect
fetal development and cause miscarriages.
Elevated levels are widely defined as 10 micrograms per deciliter of blood or higher,
according to the CDC, but no safe levels have been established, according to Mary Jean
Brown, chief of the center's lead poisoning prevention branch. Levels as low as two
micrograms per deciliter have been known to affect children's school performance, she
said.
Still, it is unclear how many children nationally get lead poisoning from remodeling jobs.
Data collected by state health workers in Maine from 2001-2003 showed that 62% of
children who had lead-blood levels of 20 micrograms per deciliter or higher were in
homes with recent or ongoing renovations.
The likelihood a home contains lead-based paint varies with the home's age. According to
a 2002 survey by the Department of Housing and Urban Development, just 24% of
housing built between 1960 and 1977 contains lead-based paint, while it is found in 69%
of housing built between 1940 and 1959 and in 87% of housing built before 1940. HUD
researchers also found that housing in the Northeast and the Midwest had about twice the
prevalence of lead-paint hazards compared with housing in the South and West.
While contractors laud the goal of reducing children's exposure to lead-based paint, they
say the proposed rule is too sweeping. The National Association of Home Builders is
studying whether routine jobs, such as window replacement, could pose a lead-paint risk,
and plans to submit its findings to the EPA. "It's a question of whether EPA is painting
with too broad a brush," says Gary Suskauer, the association's environmental policy
analyst.
Contractors are also concerned that working under the assumption that lead is present
will require expensive liability insurance, on top of costs related to paperwork, training
and clean-up equipment. For example, a HEPA vacuum can cost more than $1,000, and
replacement filters run as high as $250, says Mr. Suskauer.
"We are concerned about children, but we just don't feel that it's been proven that
remodeling is a big cause of lead poisoning," says Michael Heuser, vice-chair of
government affairs for the National Association of the Remodeling Industry, based in
Des Plaines, Ill. Both Mr. Heuser's group and the National Association of Home Builders
have worked with their members on voluntary lead-safety practices.
The public has until April 10 to submit comments on the proposal. The agency will then
consider the public's input and issue a final rule.
The first phase of the rule to go into effect would apply to owner-occupied housing built
before 1960 where a child under age 6 resides, rental housing built before 1960, and
homes built between 1960 and 1978 where a child has been found to have high blood
lead. The second phase of the rule would go into effect a year later and would apply to
owner-occupied homes built between 1960 and 1978 where children under the age of 6
live, as well as rental housing built during the period. The proposal would not apply to
activities that disrupt less than two square feet of painted surface, the EPA says.
Some states, including California, Indiana and New Jersey, already regulate renovations
in pre-1978 housing. States could administer their own versions of the rule with EPA
approval.
Rebecca Morley, the executive director of the National Center for Healthy Housing, a
child-advocacy group in Columbia, Md., called the proposed regulations a "critical piece"
of eliminating childhood lead poisoning. She said they should expand to include a ban on
practices that can create a lot of dust, such as sand-blasting or torching painted surfaces.
She also said the rule should require contractors to provide an independent lead-clearance
test that assesses at what levels, if any, lead is still present when the job is done, rather
than the on-site "white glove" tests that the EPA is proposing. She and other advocates
also note the proposed rule doesn't cover other buildings where children may spend time,
like day-care centers.
People who are planning renovations can learn more about minimizing risk by calling 1800-424-LEAD or going to www.epa.gov/lead.
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Lead based paint was used extensively in homes built prior to 1978 when it was banned.
It is estimated that 65% of the US housing stock was built prior to 1978. Lead poisoning
is a serious condition and can have lasting negative effects from learning disabilities to
death and children are the most susceptible. This is a problem in older homes which are
the ones in most need of renovation and updating activities. With the added cost of
mitigating lead based paint exposure in the renovation process, contractors are not taking
the necessary precautions to appropriately deal with the risk in impacted homes. In such
circumstances where the market fails to deal with this externality, the govt. is justified to
enact regulations to try and force mitigation of the problem. In this case, I think the govt.
is justified in implementing regulations on standards around renovation procedures in
houses constructed during the use of lead based paint. Dust created by such renovations
can affect the residents as well as neighbors depending on the level of dust and the
direction of the wind. Without the regulations, people, especially children, are put at
unnecessary risk for serious health problems related to lead poisoning.
The lead based paint issue is not new. The government has been requiring
disclosure of the potential hazards of lead based paint in realestate transactions involving
impacted homes, both sales and leases, for many years. The problem with this limited
intervention is that the information is not resulting in changes in the behavior of
contractors. Implementing government regulations represents a higher level of
government involvement then is currently in place. Increased involvement will come at a
higher price. It is estimated that home renovations could cost as much as 25% more due
to the cost of insurance, training and equipment that contractors would be required to
comply with to perform renovations on impacted homes. Moreover, the market value of
pre 1978 homes may be negatively impacted due to the added cost that a buyer would
bear to remodel such a home once purchased. There would also be an added
administrative cost for the government to ensure compliance with the new rules.
Despite these additional costs, I feel that regulation of renovation procedures is
warranted. Children are the most susceptible and they are not in a position to defend
themselves. If the market fails here then the government is obligated to step in.
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Regulatory Impact Study (Probably and environmental impact study specifically):
Regulating the activities of contractors related to the issue of lead based paint has to do
with environmental, health and safety benefits. The issue of lead based paint goes
beyond the economics of a cost/benefit analysis. Derived benefits of regulation are based
on the subjectivity of the value of human wellness.
The Wall Street Journal
www.wsj.com
EPA Proposes Regulating Home Renovations
February 2, 2006; Page D1EXCELLENT!!!
Article #2 - Market Power:
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Federal antitrust enforcers are preparing a possible court challenge to Whirlpool
Corp.'s $1.7 billion acquisition of competitor Maytag Corp. to prevent the combined
companies from dominating the home-appliance market.
Senior Justice Department officials haven't decided to bring a case, and the deal still
could be cleared. But after a seven-month investigation, the Justice Department has
begun to seek sworn statements from competitors and customers to prepare a request for
a court injunction to block the merger, people close to the case said.
Maytag shares have fallen in recent days, losing 3.1% of their value on Friday to close at
$16.21. That is well below the $21 in cash-and-stock price that Whirlpool said it would
pay last summer for the 103-year-old Newton, Iowa, appliance maker. A spread that large
suggests some investors are worried the deal won't be completed.
Maytag didn't return requests for comment. A Whirlpool spokesman declined to
comment. A spokeswoman for the Justice Department declined to comment.
The deal has been seen as a bellwether for antitrust enforcement by the Bush
administration, which has challenged few mergers since it took office in 2001.
Combining Whirlpool and Maytag would create a market giant producing half of the
nation's dishwashers and more than 70% of clothes washers and dryers.
Under longstanding federal guidelines, such a rise in market concentration would usually
draw a court challenge. But Thomas Barnett, the Justice Department's antitrust chief,
hasn't yet decided the matter, these people said. As acting chief, he had been the target of
a campaign by corporate lobbyists to back off on merger enforcement, and a Senate vote
on his nomination was stalled for months. He was confirmed late Friday.
While some corporate interests say the Justice Department has been too tough in
reviewing mergers, consumer groups have contended the opposite. The Justice
Department approved two giant telecommunications mergers -- the purchase of AT&T
Corp. by SBC Communications Inc., now AT&T Inc., and Verizon Communications
Inc.'s acquisition of MCI -- with no conditions despite concerns expressed by consumer
groups and others that it would lead to higher prices for customers.
Whirlpool won a merger agreement from Maytag in July, after outbidding two other
suitors, including a friendly takeover proposal by Qingdao Haier Co. Ltd., China's largest
appliance maker. Whirlpool and Maytag agreed to delay closing the deal until Feb. 27, to
give the Justice Department time to complete its investigation.
Even when the Whirlpool deal was first proposed, shareholder advisory firm Institutional
Shareholder Services said the combination had a 50% chance of closing. But under
pressure from investors, Maytag spurned a $14-per-share bid from private-equity fund
Ripplewood Holdings LLC for Whirlpool's $21-per-share offer.
It is not uncommon for the Justice Department to begin building a case against a deal
even as it is working out a settlement with the merging parties. A settlement could
include divestiture of certain product lines or perhaps a spinoff of those lines. Such
remedies could substantially change the overall value of the deal.
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Whirlpool and Maytag have said they are cooperating with the government, and [that the
merger should be approved to create a stronger competitor against international
competition, especially from China.]
But Justice Department staff has been skeptical of this argument and has tentatively
concluded that any economic efficiencies claimed by the companies are outweighed
by their ability to raise consumer prices if the deal were to proceed, the people close
to the review said.
In addition to the Whirlpool and KitchenAid brands, the Benton Harbor, Mich.,
manufacturer supplies washers and dryers to Sears, Roebuck & Co., part of Sears
Holdings Corp., under the Kenmore brand, which is a factor in the antitrust review. For
2005, Whirlpool had net income of $422 million on revenue of $14.32 billion. It has
68,000 employees.
Maytag had a net loss of $81.9 million and revenue of $4.9 billion for 2005. It owns the
Jenn-Air, Amana and Hoover brands. The company said it might try to sell the Hoover
vacuum-cleaner unit and a smaller vending-machine product line.
Most companies drop merger plans once it becomes clear they will be opposed by the
Justice Department. But Whirlpool could choose to fight the case in court, perhaps
emboldened by the Justice Department's loss last year in a challenge of Oracle Corp.'s
buyout of PeopleSoft Corp. And even if it loses, Whirlpool will have effectively sidelined
its largest rival for a year or more.
The Whirlpool contract offers little protection to Maytag if antitrust concerns prevail. If
divestitures are required, Whirlpool's contract allows it to rewrite or drop the deal,
potentially leaving Maytag with only a $120 million "reverse-breakup fee." That would
probably represent just a small portion of the drop in Maytag's value should the deal
unravel.
If the deal falls apart, that could open the door for a renewed bid from Ripplewood,
which had originally tabled a $14-per-share offer for the company. Though it didn't
budge from that level, it could sweeten the offer.
There also is potential that Chinese firm Qingdao Haier could step back into the mix,
aided by the private-equity funds that helped back its original effort. Haier had offered
$16 per share, but abandoned its bid as Whirlpool grew more serious.
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The government’s antitrust laws are aimed at maintaining a competitive market for the
benefit of society. Although Maytag is just 34% the size of Whirlpool, based on 2005
revenues, the combined company would dominate the U.S. market for dishwashers,
clothes washers, and clothes dryers. Such domination would create a market power that
would likely decrease the competitiveness of these markets and result in increased prices
to consumers beyond the social equilibrium. The merger may also limit consumer
choices and reduce innovation in these markets. Whirlpool and Maytag contend that the
merger should be approved to improve international competition. Such a deal may
improve the competitiveness of these companies in the international market but would
come at a price of the U.S. market which is currently served largely by these two
companies. Competition is what keeps companies honest. I think the government is
justified in stepping in under the antitrust laws to evaluate the economic impact on the
U.S. market of this merger and I would be supportive of blocking the merger if the belief
was that the combined company would negatively impact competition. By blocking the
merger, Maytag will likely be courted by another firm which could foster competition in
the market and drive out inefficiencies among competing firms which would benefit
consumers.
Intervention in this deal may lessen the strength of the U.S. firms internationally.
Supporters of the deal believe the combination will result in better products, quality and
service, and will allow the combined company to offer a more competitive, wider range
of products to the global economy. While this may be true, I think the fact that the U.S
markets would be dominated by a combined company is an issue until foreign providers
become a larger player in the U.S. market. Suppose China were to buy the firm (which it
wanted to do. This would take Maytag out of control by U.S. laws… would that be better
than providing an internal company? The answer might depend upon who would be the
better manager of such a company.
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Economic Impact Analysis: The government intervention is necessary to protect the
financial and employment impacts on the U.S. economy.
The Wall Street Journal
www.wsj.com
Whirlpool Faces Antitrust Fight On Maytag Deal
February 13, 2006; Page A3
Article number 3: Public Good:
Like many big hospitals, the University of Utah Hospital carries a 30-day supply of
drugs, in part because it would be too costly or wasteful to stockpile more. Some of its
hepatitis vaccine supply has been diverted to the hurricane-ravaged Gulf, leaving it
vulnerable should an outbreak occur closer to home. About 77 other drugs are in short
supply because of manufacturing and other glitches, such as a drug maker shutting down
a factory.
"The supply chain is horribly thin," says Erin Fox, a drug-information specialist at the
Salt Lake City hospital.
In the event of a pandemic flu outbreak, that chain is almost certain to break. Thousands
of drug-company workers in the U.S. and elsewhere could be sickened, prompting
factories to close. Truck routes could be blocked and borders may be closed, particularly
perilous at a time when 80% of raw materials for U.S. drugs come from abroad. The
likely result: shortages of important medicines -- such as insulin, blood products or the
anesthetics used in surgery -- quite apart from any shortages of medicine to treat the flu
itself.
The very rules of capitalism that make the U.S. an ultra-efficient marketplace also make
it exceptionally vulnerable in a pandemic. Near-empty warehouses are a sign of strong
inventory management. Production of drugs takes place offshore because that's cheaper.
The federal government doesn't intervene as a guaranteed buyer of flu drugs, as it does
with weapons. Investors and tax rules conspire to eliminate redundancy and reserves.
Antitrust rules prevent private companies from collaborating to speed development of
new drugs.
Most fundamentally, the widely embraced "just-in-time" business practice -- which
attempts to cut costs and improve quality by reducing inventory stockpiles and delivering
products as needed -- is at odds with the logic of "just in case" that promotes stockpiling
drugs, government intervention and overall preparedness.
A report issued last month by the Trust for America's Health, a public-health advocacy
group in Washington, concluded that 40% of the states lack enough backup medical
supplies to cope with a pandemic flu or other major disease outbreak.
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"Most if not all of the medical products or protective-device companies in this country
are operating almost at full capacity," says Michael Osterholm, director of the Center for
Infectious Disease Research and Policy at the University of Minnesota. "That's the reality
of today's economy: just-in-time delivery with no surge capacity."
The U.S. government says it is trying to address the problem, elevating the possibility of
a flu outbreak to a national security concern. Rajeev Venkayya, a special assistant to
President Bush for biodefense, says the pandemic flu threat calls for a national response
similar to a "moonshot," alluding to the successful 1960s Apollo program.
President Bush has vowed to spend $2.8 billion to help jump-start development of a nextgeneration cell-culture flu vaccine. Currently flu vaccine production relies on a decadesold process of growing viruses in individual fertilized chicken eggs. The viruses are
inactivated to make a vaccine.
Cell-culture technology means the viruses are grown in living cells -- often mammalian
kidney cells -- that multiply on their own. The technology is already used in producing
vaccines against hepatitis, chickenpox and shingles. In theory, cell-culture technology
should allow manufacturers to produce enough flu vaccine for every American within six
months of the start of a pandemic.
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The Securities and Exchange Commission recently said it will allow companies to
book revenue on sales of vaccines or bioterrorism remedies to the government, even
if the companies hold onto the stockpile -- as the U.S. government often prefers.
Under current accounting rules, companies must ship the product to record the revenue, a
major disincentive for vaccine manufacturers.
Yet those steps largely fail to address weaknesses in the supply chain.
The severe acute respiratory syndrome outbreak in 2003 in Canada
offers a case in point. When SARS hit, the country's largest nurses'
union complained about a shortage of N95 masks after much of the
existing supply was shipped to Asia, where the disease hit hardest.
These masks protect against contracting flu by filtering out at least
95% of certain airborne materials during normal breathing. Some
nurses in Canada had to use less-protective masks when caring for
SARS patients. Others were rationing the supply. In some cases, they
were told to save their masks in plastic bags and reuse them from one
shift to the next, Barbara Wahl, former president of the Ontario
Nurses' Association, told a Canadian commission investigating SARS
in 2003.
The main companies that manufacture the masks -- 3M Co. and Kimberly-Clark Corp. -had to scramble to meet the sudden demand because, like many companies, they didn't
have an existing stockpile.
The outbreak was relatively brief and limited in location -- a minor blip compared with
what would likely happen with pandemic flu.
'Albertson's Syndrome'
Supply-chain breakdowns are one reason the economy could go into a tailspin should
there be a pandemic flu outbreak. A Congressional Budget Office study of the economic
impact of a severe pandemic, released late last year, estimated a nearly $700 billion hit to
the U.S. economy, or about a 5% decline in economic output during a one-year span,
about equal to a medium-sized recession.
One significant concern is what Michael Leavitt, the secretary of health and human
services, described in an interview as the "Albertson's syndrome," referring to the
grocery-store chain. At the first sign of panic, all supplies disappear from shelves,
something that routinely happens when there is the threat of even a modest storm.
The Grocery Manufacturers Association, which represents food retailers and distributors,
estimates that the time it takes for manufacturers and wholesalers to deliver on a retailer's
order has shortened to fewer than four days from nearly eight days in 1999. Respondents
to an association survey "are targeting even shorter cycle times of three days," the survey
said. Rick Blasgen, a former ConAgra Inc. executive and chief executive of the Council
of Supply Chain Management Professionals, says food retailers and producers "can't
afford just-in-case inventory."
The issue of stockpiling extends beyond food to vaccines. The U.S. government has
generally been reluctant to pay companies to produce extra vaccines and create a reserve
capacity. It's one reason so many companies have dropped out of vaccine manufacturing.
In the case of flu vaccines, there is too much wasted medicine in "good" years, when the
flu season isn't severe and people choose not to get vaccinated. Vaccines are tossed away
at a loss for the corporations.
"Investors punish companies for having excess capacity they don't use," says Dr.
Osterholm.
Today's worrisome flu strain, known as H5N1, has infected and killed millions of
poultry, and killed about 70 humans in Asia. Recently it has spread to Turkey and
infected at least 15 people there. Nobody knows if the H5N1 virus will mutate in ways
that promote human-to-human transmission, which is what health officials fear would
trigger a pandemic. A vaccine produced by Sanofi-Aventis SA has proved effective
against H5N1 in early trials in humans, but the company hasn't scaled up manufacturing
of it. Food and Drug Administration-approved antiviral medications, which could treat
exposed individuals, are in short supply.
To some former Pentagon officials working on biodefense on Capitol Hill, the only way
for the country to prepare for a possible pandemic is to think of health-care preparedness
in military terms. This means moving away from a just-in-time system to planning for a
just-in-case scenario in the manner of national-security policy makers.
The Pentagon, for instance, goes through intense planning and pays for reserves of
everything from bullets to jet fuel. It even forces rivals to collaborate on Pentagon
projects and wields its clout as a buyer of weapons.
Some steps are in motion to take pages out of the Pentagon playbook. A bill introduced
last fall by North Carolina Republican Sen. Richard Burr would provide some relaxation
of the antitrust laws. It would allow the government to convene meetings with drug
makers to discuss manufacturing and distributing biodefense products including those
related to pandemic flu.
Current Law
Industry executives say they feel that under current law, companies can't share basic
knowledge that would be helpful in planning for an outbreak. "What we're suggesting to
the administration is something discretionary and only under declaration of an
emergency," says Billy Tauzin, a former congressman from Louisiana who now heads
the pharmaceutical industry's leading trade organization.
Mr. Tauzin, though, also hinted at going a tad further, saying it would be helpful if "the
administration determines to allow two of our companies to collaborate on a product -- an
antiviral or vaccine or similar product." Such proposals might raise worries about
collusion in an industry that already enjoys considerable pricing power and patent
protection on its products.
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Some experts suggest the U.S. government should promise to purchase a fixed amount of
flu vaccine – [despite the cost and the likelihood that some of the money would end
up being wasted.] Canada, for instance, has contracts with vaccine makers to cover most
of its population. The largest contract is with ID Biomedical Corp. (recently acquired by
GlaxoSmithKline PLC) for about eight million flu vaccine doses per year. That takes
much of the risk out of the company's business, but still lets it manufacture additional
doses for the private market or for other needy buyers.
Dr. Osterholm has called for a program of "critical product continuity" to see the U.S.
through the worst of pandemic disruption. He proposes identifying items that are
essential to people's health and safety and then finding a way, possibly through
government funding or tax incentives, to create emergency stocks or extra production
capacity for them. High on his list of "critical products" are tools for fighting flu itself,
such as face masks, ventilators to help the sickest patients survive and syringes to
administer a vaccine if one becomes available.
In a pandemic, Dr. Osterholm says, "if we don't sell automobiles or jewelry...that
wouldn't be the same as running out of critical medicines." He likens his idea to the wellequipped fire departments at international airports, which don't respond to many crises
but are ready if a plane crashes.
Dr. Osterholm, who also is associate director of the Department of Homeland Security's
National Center for Food Protection and Defense, says the country also needs reliable
supplies of food and water, the ability to keep heat working in northern climates and
medical products for non-flu-related illnesses. The U.S. has 105,000 ventilators, most of
which at any given time are in use. The federal stockpile of medical products has about
4,500 more. In a pandemic, tens of thousands more would be needed.
The federal government has allocated grants worth $5 billion over three years to states
and hospitals to increase medical preparedness, including surge capacity at hospitals. But
the money was used for other priorities as well, such as improving medical labs and
disease surveillance. Not all of it has been spent.
"You can't plan for a surge capacity in an emergency room of 500 or 1,000 patients from
the 20 you see in a day," says Michael Bishop, a Bloomington, Ind., emergency physician
who used to be on the board of directors for the national trade association for emergency
physicians. "Nobody could afford to do that. You can't have 10 doctors and 100 nurses
sitting around waiting for something to happen."
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In order to survive in today’s highly competitive market, companies are cutting
costs and trying to operate as efficiently as possible. Low inventory levels are one of the
measures employed by companies to stay competitive. [excellent example of the tradeoff
between efficiency and readiness to deal with uncertainties] Inventory is expensive to
hold and high levels of inventory open a company up to the risk of obsolescence which
can be costly. Such efficient inventory practices, dictated by the capital markets, do not
provide the appropriate levels of vaccine inventory to handle a pandemic outbreak of
disease. The government is proposing to intervene in this situation by changing
regulations related to revenue recognition standards that company’s are currently required
to follow under the SEC. These changes would allow companies to recognize revenue
for vaccine inventory held in stockpile for the government. The government failure is the
cost associated with producing enough inventory of vaccines to meet a widespread
outbreak and the cost of warehousing the inventory. In addition to the cost of holding the
inventory, there may be money wasted in unused vaccines that expire. Once deemed
obsolete, the unused vaccines would have to be disposed of which adds additional costs
to the intervention.
The proposed government intervention is aimed at increasing the supply of
vaccines to achieve a social equilibrium that currently exceeds the market equilibrium
today. The spread of the bird flu that is currently impacting certain countries has
highlighted this threat. Protection of human welfare in a pandemic situation is critical to
ensuring a continued strong US and world economy if the need arises. Although I see
this as an expensive step now, it is hard to argue that the cost of preparedness is worth the
money. The cost associated with a pandemic situation in the U.S. economy would also
be significant. This is one of those situations that is hard to justify until the need occurs
but we’ll all be thankful if it does.
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Cost Benefit Analysis - Here, the analysis will focus on the costs of changing the
regulations to the social benefit achieved of adequate preparedness. There may also be
cost effectiveness study to determine how much vaccine supply must increase to achieve
an acceptable level. How much supply, where should it be located and for what diseases
are questions that must be considered. Excellent
The Wall Street Journal
www.wsj.com
Just-in-Time Inventories Make
U.S. Vulnerable in a Pandemic
January 12, 2006; Page A1
Article #4 – Dynamic Market Failure:
The Food and Drug Administration is expected to announce new guidelines for the
preliminary phases of drug development, including how to manufacture small batches of
experimental medicines and conduct very-early-stage studies of such compounds in
patients.
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The moves, likely to be unveiled as soon as today, are aimed at replenishing the
thinning pipeline of new drugs, an agency official said.
Though invisible to patients and investors, the early stages of testing are critical to drug
development. The FDA estimates that the work done to prepare a request to allow human
tests of an experimental drug currently costs $500,000 to $1 million. Manufacturers may
examine thousands of compounds and only bring a few into human tests.
The agency says it wants to encourage drug companies and academic researchers to
explore more possible treatments and get better information about them at the beginning
of the development process. Last year, the FDA approved 20 new drugs, down from 31
the year before, not including biotech drugs.
Early indications on a drug, before it is given to humans, may be misleading -- and
manufacturers risk tossing away promising treatments before they commit the funds for a
large-scale clinical trial. For instance, Pfizer Inc.'s blockbuster cholesterol reducer
Lipitor, now the world's top-selling drug, performed no better in animal tests than one
rival already on the market and several others then in advanced human studies. That led
officials at the former Warner Lambert Co. to question whether its prospects justified the
expense of mounting human studies.
An impassioned plea from the scientist who led the Lipitor development effort persuaded
the company to give the drug a try in humans. After that, it took just a handful of healthy
volunteers to show that Lipitor was especially effective in lowering cholesterol in
humans.
The FDA is expected to issue new manufacturing standards for researchers or companies
that are making small batches of experimental drugs, likely in a laboratory setting,
according to people with knowledge of the matter.
Currently, academics would theoretically have to meet the same paperwork and other
requirements that a drug company faces when it makes hundreds of thousands of doses of
a medicine in a factory. Those formal rules can include requirements that academic
researchers often can't meet practically -- such as storing each raw ingredient of a drug in
a different room, or maintaining two separate laboratories with one dedicated solely to
confirming quality measures. The new guidelines might still require separation of the
ingredients for a particular experimental drug made in a lab but wouldn't require different
rooms.
2
Separately, the agency is expected to lay out guidelines for very early stage "exploratory"
studies of experimental drugs, according to people with knowledge of the matter.
Currently, drug makers do extensive testing, including lots of laboratory and animal
studies, before they apply for FDA permission to test medicines in people. Now, the
agency is laying out some limited circumstances in which companies could do less
research -- for instance, testing the experimental drug in just one kind of animal -before asking the FDA if they can do a human study.
But these more flexible requirements would only apply in cases where the human study
was very limited -- likely seven days at most, in a small number of people -- and the
agency would scale the testing requirements to the potential risk of the human studies.
For instance, the "exploratory" standards could apply to studies done with very tiny
doses.
The new guidelines may draw criticism from patient advocates, since [they will likely
have the effect of reducing the testing that drug developers do before giving their
experimental medicines to humans.] However, risky early-stage studies, such as those
in which people are given large doses to find the maximum amount of a drug they can
tolerate, would not fall into the "exploratory" category.
3
The new guidelines for "exploratory studies" aren't aimed at showing whether the drug
works. Doses would be too small and the studies too short. Instead, they are intended to
enable companies to get an early read on questions like the so-called pharmacokinetics of
drug -- whether it latches on to its targets or hangs around in the body long enough to
have a potential effect. The exploratory studies would still need approval from an
institutional review board.
"Getting a compound to see if there is decent pharmacokinetics is a huge hurdle," says
Adrian N. Hobden, president of Myriad Pharmaceuticals Inc., Salt Lake City. "A lot of
drugs will fall out in" early human testing "because the drug is immediately eliminated
from the body." To have that happen after spending $2.5 million is particularly
frustrating, he adds.
Reducing redundant animal studies would also lead to cost savings, Dr. Hobden says, but
he says such steps should be taken only in circumstances when assurances can be given
to healthy volunteers who are the first humans to get a drug that they won't be put at any
added risk.
4
Bringing new drugs to market is extremely expensive. Research and
Development costs are high and of the many attempts to bring new remedies to market,
there are a significant number of failures. The high cost of development and testing are
impacting the number of new drugs coming to market. Companies find it difficult to
afford the increasing costs and there are high risks inherent in the process. As these costs
increase, drug companies tighten their R&D budgets and focus their efforts on those
studies that seem most worthwhile. Dynamic market failure is occurring and the market
failure is resulting in less and less research and development of new drugs. The
government is planning to intervene by changing the current regulations governing the
process of developing new drugs. The FDA will implement changes which will allow
companies, in effect, to shorten their R&D cycle and reach conclusions on the viability of
new drugs earlier in the process. A shorter timeline for making a “go/no-go” decision
will save companies money. These measures are aimed at stimulating research in a
broader sense and hopefully increasing the number of new drugs that come to market.
Essentially, the rising cost of developing drugs is eliminating the research and
development being done. Without intervention of some kind, the costs may reach a point
where commercial firms can no longer support such efforts. Relaxing regulations on
early stage testing may be enough to prevent the dynamic market failure that is occurring
but could come at a human price. A reduction in the levels of testing required prior to
tests on humans may pose an increased risk to early trials on human patients. I would be
more supportive of the government maintaining existing standards and providing
subsidies to drug companies as a means to reduce the private cost of the development
process. Subsidies are a lesser form of government intervention and I believe would be
an appropriate starting point in this effort. Subsidies could provide the necessary level of
stimulus to achieve the desired results without the risks, I believe, are associated with
lowering the testing standards.
5
Cost benefit analysis – The social benefits of bringing new drugs to market must be
weighed against the added costs associated with increased safety risk to humans under
relaxed guidelines.
The problem, of course, is how to value human life. Cost effectiveness, using human life
and disease, might be a better approach because it doesn’t require the measurement of the
value of human life, just a count of relative number of lives saved between two
alternatives.
The Wall Street Journal
www.wsj.com
New FDA Rules Will Expedite Testing of Drugs
January 12, 2006; Page B1
INEQUITY
Last fall, the U.S. and the European Union reached a tentative but historic deal:
U.S. and EU airlines could fly freely to cities on either side of the Atlantic. Crucially,
U.S. carriers, after years of clamoring, would win greater access to London's Heathrow
Airport.
But the "open skies" agreement may yet be grounded. EU approval hinges on the U.S.
easing its airline-ownership rules. The change would allow foreign investors to exercise
greater control over U.S. carriers, a move vociferously opposed by labor unions, many
lawmakers and Continental Airlines, which has vowed to sue to try to block the rule.
The battle is one of a series of highly charged disputes over foreign investment in the
U.S. Last week, Congress erupted on news that a Dubai company had won permission
from the Bush administration to manage terminals at five U.S. shipping ports. Last year,
Cnooc Ltd., the Chinese state-controlled oil company, dropped plans to buy U.S. oil
company Unocal Corp. amid similar complaints.
'Uncomfortable With Globalization'
"I think Americans are generally uncomfortable with the reality that the world is
increasingly coming to America's shores," says Ivo Daalder, a senior fellow in
foreign policy at the Brookings Institution, a Washington think tank.
[interesting example of inequity!!! Certainly germane
to our class]"They're uncomfortable with globalization. There's a general
underappreciation of how we are integrated into the rest of the world. We want to reject
that. We don't want to be vulnerable."
Rules on foreign ownership vary according to industry. U.S. law doesn't bar foreign
ownership of oil companies or port operators, though the president has the power to block
deals that threaten national security. For broadcast and radio properties, foreign
ownership is capped at 25%.
In the case of airlines, foreigners are banned from owning more than 25% of the voting
stock in a U.S. carrier, or 49% of the total stock. The Bush administration and the
Europeans would like to raise those caps, but Congress has refused.
To get around that, the administration wants to reinterpret a regulation that requires
foreigners exercise "no semblance" of control over a U.S. airline. The change would let
non-U.S. citizens influence an array of operations, including marketing, routes and types
of equipment used. Decisions on safety, security and use of craft to aid the military would
remain in U.S. citizens' hands. The caps on stock ownership wouldn't change. The
proposal has divided the U.S. airline industry.
Administration officials say the change would help carriers attract foreign capital and
break down barriers to globalization. "U.S. airlines should have the broadest access to
global capital markets permitted by law," Jeffrey Shane, undersecretary for policy at the
Department of Transportation, told Congress.
Critics say the proposed change would violate U.S. law. Three years ago, Congress
specified that U.S. citizens must retain "actual control." They say Congress, not the
administration, should dictate any change.
They also cite economic arguments. The Air Line Pilots Association, backed by other
unions, fears that if foreign carriers control U.S. airlines, the best jobs -- like flying
international routes -- would go to foreigners. Continental is attacking the airline-control
rule to try to stop the open-skies treaty. It fears it won't get spots on Heathrow's busy
schedule, putting it a competitive disadvantage.
The airline hopes the EU won't approve the open-skies pact if the ownership rule is tied
up in court. A confidential 10-page memo by the airline's legal team concludes the
regulation is "vulnerable to judicial review and reversal and uncertainties stretching years
into the future."
Potential Boon for Consumers
The open-skies treaty would allow airlines to fly freely between the world's two biggest
aviation markets, replacing bilateral agreements between the U.S. and EU countries. It
also would permit U.S. and EU carriers to continue flights, rarely permitted today,
onward to third countries. Restrictions on fares and the number of flights would end, a
potential boon for consumers.
The treaty would give all U.S. carriers the theoretical right to join UAL Corp.'s United
Airlines and AMR Corp.'s American Airlines in serving Heathrow. But in practical
terms, it would be harder for some airlines to get the spots.
[Continental, for example, doesn't have the relationships with foreign carriers that
other U.S. carriers do, which would make it much more difficult to get into
Heathrow.] "If the EU deal is approved, British Airways can start flying between
Heathrow and Houston with as many flights as it wants to, but Continental won't be able
to operate any flights between its Houston hub and Heathrow," Continental President Jeff
Smisek said in a prepared
statement.
Northwest Airlines also opposes
the ownership change because it
fears it wouldn't be able to
compete effectively in an openskies regime. Its alliances with
foreign airlines are in doubt for
unrelated reasons. Delta Air
Lines, meanwhile, might be able
to win Heathrow space with the
help of its European partner, Air
France, a unit of Air FranceKLM SA.
'Actual Control' Language
United welcomes the proposed easing of the ownership rule, saying it would allow
greater integration of U.S. carriers and overseas partners. Another supporter is FedEx
Corp., despite its campaign three years ago to add to U.S. law the "actual control"
language because of a dispute with DHL, a unit of Deutsche Post AG of Germany, over
its U.S. business. Today, FedEx stands to be a big winner if the aviation treaty goes
through, because it would allow the company to set up a European hub for its cargo
business.
A House bill written by Minnesota Democratic Rep. Jim Oberstar, with broad bipartisan
support, would put the ownership-rule change on hold. But its fate is unclear. Republican
leaders haven't shown much interest in moving a bill.
Still, the controversy over the regulation is making EU officials nervous about signing an
open-skies deal. They hope to approve the treaty -- if the foreign-control change stays on
track.
If the treaty isn't approved, thorny issues arise. Current bilateral agreements between
individual EU countries and the U.S. are illegal, according to an EU court ruling. If there
isn't a new treaty to replace them, the commission probably would order EU member
states to renounce the treaties, officials say, creating damaging uncertainty in the airline
business and setting up court battles between the commission and EU member states.
Corrections & Amplifications:
Northwest Airlines doesn't oppose a U.S. Transportation Department proposal that would
allow foreign investors to exercise greater control over U.S. carriers. Northwest said it is
"concerned" about the proposal, but hasn't opposed it. This article incorrectly said the
airline opposes the change.
4. Fears and uncertainty over globalization may cause the “Open Skies” agreement to
fail. This agreement was an attempt at improving the inequities that currently exist with
regard to access to the European market. In particular, most airlines had been
complaining for many years that they were being unfairly kept out of London’s Heathrow
airport, and that they were prevented from providing connecting flights. The open skies
agreement would address this perceived inequity and provide foreign investment into the
US airline industry by easing the foreign ownership rule. The agreement, if passed, will
have the unfortunate consequence of creating new inequities within the US airline
industry by allowing only airlines that are allied with United or American to have rights
to European airports.
5. Regulatory Study: The treaty has stipulations that require the relaxation of ownership
rules for airlines in the United States. There is no stated economic benefit.
URL for this article:
http://online.wsj.com/article/SB114100335572583856.html
Airlines 'Open Skies' Accord
May Not Fly
U.S.-EU Pact Is Delayed
By Battle in Washington
Over Foreign Control of Carriers
By LAURA MECKLER in Washington and DANIEL MICHAELS in Paris
February 27, 2006; Page A4
.
EXTERNALITY
It's a silent, nationwide epidemic.
Virulent, drug-resistant strains of staphylococcus bacteria are rapidly spreading in many
communities. Implicated in 126,000 hospitalizations a year, the germ can cause skin
infections, bone infections and rare but lethal pneumonias. A recent study by the U.S.
Centers for Disease Control and Prevention in Atlanta reported that about two million
people in the U.S. carry drug-resistant staph in their noses.
One of the many challenges hospitals face in treating patients is the time -- up to 48 hours
-- required by traditional diagnostic tests to identify drug-resistant staph. In the interim,
people who carry staph can spread it. Patients already infected can worsen, while
doctors are left to guess whether symptoms are signs of routine infection or resistant
staph requiring aggressive drug treatment.
Now, help is at hand, but at a high price.
A growing number of companies are pushing the technological envelope to pioneer new
tests that cut the time to detect staph carriers to a few hours. But hospitals must weigh the
benefits of the new tests against their cost. Hardware for the tests can cost $35,000 to
$60,000, and individual test kits can cost $20 to $30, against less than $5 for standard
slower tests.
Beyond the price of the tests is the cost of isolating patients found to harbor drugresistant staph, a procedure that requires dedicated space and extra staff time. Becton,
Dickinson & Co. of Franklin Lakes, N.J., which markets a two-hour test for methicillinresistant staph aureus (often abbreviated as MRSA), estimates that only about half of U.S.
hospitals perform active surveillance for staph, and only one in 10 of these uses rapid
tests.
Diagnostic companies and some doctors say rapid tests can curb hospital staph and limit
complications that cause added suffering, longer stays and higher hospital costs for
unreimbursed care. Next-generation tests to identify resistant staph in tissue or lung
infections could one day help doctors more quickly diagnose and treat, and perhaps save,
patients like Simon Sparrow, a 17-month-old Chicago boy who died in April 2004 of
staph pneumonia before standard culture tests came back.
But the cost-benefit of the rapid tests is currently a hard sell. [At 700-bed Grady Health
System in Atlanta, associate epidemiologist Susan Ray tests infants in the neonatal
intensive-care unit for drug-resistant staph, but she says screening everyone with hightech tools would be too costly for her "cash-strapped" hospital.]
Classic culture tests use a technology that dates to the era of pioneering 19th-century
microbiologists such as Louis Pasteur and Robert Koch. Doctors swab a patient's nose,
put the sample in a petri dish filled with nutrients like blood agar, and wait a day for the
bacteria to grow into an identifiable colony. Screening the bacteria for drug susceptibility
or resistance takes another day.
Meanwhile, bacteria can spread from carriers to others, and doctors must make educated
guesses about which drugs will work on sick patients.
The new tests take a patient sample, separate the bacteria in solution, and shake them in a
vial with tiny glass beads to break open the bacteria, releasing their genes, made up of
DNA. Using a technology called polymerase chain reaction, the DNA is mixed with
genetic probes that target and multiply the key genes that are the signature of staph.
These genes activate a fluorescent signal that identifies the bacteria as MRSA.
Becton Dickinson's rapid test, made by its recently acquired GeneOhm unit, is approved
for nasal swabs used by hospitals to survey colonization rates. The company hopes to
bring out future tests to detect MRSA in infected blood and tissue.
The MRSA test is also marketed by Cepheid of Sunnyvale, Calif., which also sells the
hardware -- a $34,000 machine called the SmartCycler System -- needed to run it. Later,
Cepheid plans to seek market approval for a newer machine at prices from $19,000 to
$65,000 each.
Roche Molecular Diagnostics, a unit of Switzerland's Roche Holding AG, began selling
its six-hour SeptiFast test for bloodstream infections, or sepsis, in Europe in January. It
costs about $180 per patient and requires test instruments costing about $7,200 and
$54,000 each. U.S. prices for the test, which is seeking U.S. approval, will vary, but
Roche estimates the overall U.S. market for SeptiFast could be $100 million a year.
At least half a dozen other companies are working to speed or automate portions of the
testing process.
Infectious-disease experts disagree on whether to do routine screening of hospital
patients, let alone rapid screening. The Society for Healthcare Epidemiologists of
America advocates using general cultures to screen all high-risk hospital patients for
MRSA. But an advisory panel to the CDC recommends hand hygiene, gloves and
isolation, with surveillance testing on an as-needed basis. Trish Perl, the society's
president and hospital epidemiologist at Johns Hopkins Hospital in Baltimore, says not
enough is known about how best to use rapid testing.
But new laws, passed in seven states and under consideration in 20 others, mandate
public reporting of hospital-acquired infection rates at hospitals. These laws could
increase demand for the tests. David Persing, executive vice president and chief medical
and technical officer of Cepheid, predicts hospitals will embrace "a new marketing tactic:
'We've got the clean hospital.' "
In the Netherlands, where hospital-acquired staph infections are kept low by testing and
isolating carriers, Martin Bootsma and colleagues at Utrecht University wrote in the
current issue of the Proceedings of the National Academy of Sciences that rapid tests not
only can speed detection of staph carriers, but also cut the time that suspected carriers are
held in isolation while awaiting traditional culture results. Evanston Northwestern
Healthcare in Evanston, Ill., a three-hospital group, turned to rapid tests after it
discovered in August 2004 that 8.5% of its patients were colonized with resistant staph.
"We had to do something about that," epidemiologist Lance Peterson says. "That was
really just too high." After working on a home-brew rapid test for his hospital, Dr.
Peterson switched to the GeneOhm test, which had been approved by the U.S. Food and
Drug Administration. The doctor is a member of Cepheid's advisory board and gets a
discount on test equipment.
Each infection averted saves the hospital $25,000 in unreimbursed costs, Dr. Peterson
estimates. Moreover, he adds, "it'll make an accurate diagnosis right off the bat so you get
treated for the right thing," and patients won't get ineffective antibiotics in the interim.
Other hospitals insist they can cut down on infections using older technology. Carlene
Muto, assistant professor and director of infection control at University of Pittsburgh
Medical Center, says her hospital began screening ICU patients at the end of 2001. By
isolating carriers, enforcing hand washing and stressing proper use of gowns and gloves,
the center slashed MRSA infections by 90%. "We're not interested in the SmartCycler
because of the price," she says. "I'm not sure it will make a difference."
4. Drug resistant strains of bacteria are on the rise. This article discusses some of the
problems that have arisen with these new strains. The costs to hospitals, patients, and the
insurance industry due to under diagnosed infections are growing rapidly due to the
spread of these infections within hospitals themselves. If hospitals are unable or
unwilling to invest in new technologies to assist in finding these resistant strains, their
continuing spread will eventually require government intervention. The government itself
has weighed in on the situation by requiring the reporting of hospital-acquired infections
in 20 states so far. This requirement is designed to bring pressure onto hospitals to
improve diagnosis, but will also have the unfortunate effect of increasing costs in certain
already poor hospitals.
5. Cost effectiveness analysis: The use of drug resistant staph tests will only see
widespread use when the cost of providing such testing is supported by improved
efficiency in diagnosing such cases.
URL for this article:
http://online.wsj.com/article/SB114229746323797194.html
Fast Staph Test Limits Spread -- At a High Price
By MARILYN CHASE
March 14, 2006; Page B1
EXCELLENT
Market Failure: Market Power
Adding further scrutiny of the music industry's business practices, the U.S. Justice
Department has opened an investigation into possible collusion in the ways the four
global music companies set prices for online music, according to people familiar with the
matter.
A Justice Department spokeswoman, Gina Talamona, said that antitrust enforcers are
"looking into the possibility of anticompetitve practices in the music-download industry."
As part of the inquiry, which doesn't appear to be a criminal investigation, all four
companies have either received so-called civil investigative demands, similar to
subpoenas, or have been notified they will be receiving them soon. The investigative
demands were sent out Monday.
People with knowledge of the investigation have said that it is similar in important
respects to an inquiry already under way by the office of New York Attorney General
Eliot Spitzer, which has issued two rounds of subpoenas since December. The companies
involved are Vivendi Universal's Universal Music Group; Sony BMG, a joint venture of
Sony Corp. and Bertelsmann AG; EMI Group PLC; and Warner Music Group Corp.
Depositions of music-industry executives have already been taken in the Spitzer
investigation, people close to the inquiry said.
[The investigations come at a delicate time for the music companies, which have only
recently begun to come to grips with the need to embrace digital-music sales as CD sales
dwindle]. They consider the transition critical to their long-term survival.
The more recent set of subpoenas issued by Mr. Spitzer's office in February focused on
so-called most-favored-nation clauses used by music companies in contracts with certain
kinds of online music services, according to people in the industry. Online music retailers
have complained that these clauses allow a music company to receive terms as favorable
as any of its competitors, without actually having to negotiate the better terms itself.
Another area of possible interest is the notion of "vertical collusion" between retailers,
like Apple Computer Inc., which sells songs online for 99 cents, and any given recordedmusic
U.S. Opens Probe of Pricing Of Online Music by Four Firms
By ETHAN SMITH
excellent
March 3, 2006; Page A12[
4. The government has been slow and methodical with its interventions within the music
industry. The example of Spizer conducting several depositions is a perfect example of
showing that unscrupulous industry collusion will not be tolerated. However, his
department has not yet taken any formal action. This is an area in which I feel
government has thus far played a solid role in not stopping innovation. Though the music
industry has viciously attacked piracy in the past, it has recently realized it must embrace
new technologies and quickly adapt to new business models. In fact, the Recording
Industry Association of America (RIAA) has recently stopped pursuing government
intervention and is beginning to collaborate with technology firms that produce software
that is used in music piracy. I feel that the lack of government intervention has forced the
RIAA to innovate. The Motion Picture Association of America is still aggressively
seeking government intervention. I know…shocking isn’t it!?
5. Economic Impact Analysis: The government is showing it is watching industry
tactics so they avoid slowing innovation.
Market Failure: Inequity
Congress's Move to Simplify The Tax Code
Creates Loophole For Some Wealthy Families
March 1, 2006; Page D1
Defining the term "child" sounds simple -- except at tax time.
There are at least five different tax breaks tied to children and until recently, the tax
code had a separate test for each. Recognizing the absurdity and inefficiency of that,
Congress enacted legislation in late 2004 streamlining the definition of a child.
[the inequity market failure concerns poor
families that have children. The government
intervention is tax breaks (i.e. subsidies). The
government failure is also inequity.
The new system took effect for 2005 tax returns, which people are preparing now.
[But the new law has ended up creating loopholes allowing some high-income
families to get tax benefits that weren't intended for them -- such as the earnedincome tax credit, which is intended for low-income workers. At the same time, some
low-income families are finding themselves unable to claim benefits that they should
be getting.]
Some lawmakers and tax experts are up in arms about what they say are the law's unfair
consequences. Coming up with a fair solution is tricky not only because of the Internal
Revenue Code's complexity but also because of the varied types of households and living
arrangements in the U.S. today.
Treasury officials have proposed a remedy, which they say would raise $2.6 billion for
the government over 10 years, mainly by closing tax loopholes for the rich. But it's
unclear whether Congress will act, especially since this is an election year and lawmakers
face many other pressing issues. Some critics also fear that the proposed remedy could
create new inequities for taxpayers.
The changes to the child-definition law streamlined the definitions of a child for five
different tax breaks -- the dependency exemption, child-tax credit, earned-income credit,
dependent-care credit and head-of-household filing status. They are among the new twists
and turns taxpayers have to grapple with as they fill out returns for last year.
Most families probably won't be affected by the change. But for some high-income
earners the law could be a boon. This is especially true for wealthy families with two or
more children living at home, where one or more of the kids has taxable income,
especially income from a job.
Francis Degen, president of the National Association of Enrolled Agents, which
represents about 40,000 private-sector tax specialists, offered this example: A couple
with two children living at home -- a 14-year-old daughter and a 22-year-old son -- file a
joint return with adjusted gross income of $400,000. At that level of income, the parents
don't get any tax benefit from claiming the daughter as a dependent. On the other hand,
the son, who has $15,000 in wages and isn't a full-time student, can claim his sister,
enabling him to receive the child-tax credit and earned-income tax credit.
Assuming he had no tax withheld, this turns what would have been a balance
due of $683 on his return to a federal income-tax refund of $3,158.
"It is beyond reasonable belief that the intent of the law was to allow such
largesse," Mr. Degen said in a letter to Internal Revenue Service
Commissioner Mark Everson, in which he cited the preceding example.
The situation underlines the difficulty of simplifying the country's complex
tax system, where efforts to fix one problem can create new ones. It also
offers a small preview of the battle likely to ensue if the Bush administration
proposes a major tax-system overhaul, as a presidential advisory committee
suggested late last year. Treasury officials say that plan is still being worked
on, but that there is no timetable.
Some tax preparers are recommending clients check if they can benefit from
the new law. If several members of your household are each filing tax
returns, "look at the family situation altogether, rather than looking at each
return separately," says Kathy Burlison, director, tax implementation, at
H&R Block Inc. in Kansas City, Mo.
Under the new law, there are several tests to qualify as a child. The child must be your
son, daughter, stepchild, eligible foster child, brother, sister, half brother, half sister,
stepbrother, stepsister or a descendant of any of them. The child must be under age 19 at
the end of the year, or under 24 at the end of the year and a full-time student -- or any age
if permanently and totally disabled. The child must have lived with you more than half
the year (although there are some exceptions, such as children who were born or died
during the year). The child must not have provided more than half of his or her own
support for the year. For more details, see Chapter Three of IRS Publication 17
(www.irs.gov).
This broad definition can also work against some lower-income taxpayers, according to
Treasury officials, who offered this example in a recent report: A 20-year-old woman
who works at a minimum-wage job and attends school full time is the legal guardian of
her 15-year-old brother. Because of complex rules in the new tax law, the woman can't
claim her younger brother for the earned-income tax credit, even though she would have
been able to do so under the old tax law. However, the woman may still be able to claim
other child-related tax benefits.
Activity is picking up aimed at rewriting the 2004 law. The Bush administration proposed
a cure as part of its fiscal 2007 budget. Senate Finance Committee Chairman Chuck
Grassley says he is "open to refinements that may be necessary to further help taxpayers."
The American Institute of Certified Public Accountants is "aware of the issue" and
considering what steps to take, says Thomas J. Purcell III, head of the AICPA's tax
executive committee.
New Definition Of a 'Child' Causes Outcry
Source: March 1, 2006; Page D1, The Wall Street Journal Online,
www.online.wsj.com
4. The above article is a blatant example of an inequity in our tax code. This is a loophole
that was found by creative tax specialists and was not intended to create an inequity.
However, this is just one example of many inequities created by our absurdly
complicated tax law system. Government intervention is needed to simplify the tax code
and make it fair for all who pay taxes. There are a couple different options I feel may be a
good solution. A flat tax has been discussed and debated for years[but
how will
you prevent loopholdes, special interest, etc. from
making such a code more complicated?]. This system would
obviously simplify the tax code and, in my opinion, create the ultimate equitable solution.
Another alternative would be a consumption tax. Though more complicated than a flat
tax, it provides more equality among all who pay taxes.
5. Fiscal Impact Study: This focuses only on government finances and ignores the full
costs and benefits to society as a whole.But you wouldn’t ever want to recommend that
such an issue be addressed only from the government pint of view. To study how best to
deal with the inequity in the market you would want to use the Lorenz curve and test the
effect of different changes in the tax code to see the tax code leading to the greatest
efficiency.
Market [failure?] Power: Information Asymmetry
Intelligence gaps worried Coast Guard
Senators spotlight report as ports deal delayed
By William L. Watts, MarketWatch
Last Update: 6:59 PM ET Feb 27, 2006
WASHINGTON (MarketWatch) -- President Bush temporarily averted a
showdown with Congress this week over an Arab-owned stevedore firm's attempt to
take over terminal operations at six major U.S. seaports, but lawmakers continue to
pose questions about the administration's initial decision to approve the deal.
[For instance, the Coast Guard warned the Bush administration that it didn't have
enough information to assess whether Dubai Ports World, a company owned by the
United Arab Emirates, might support terrorist operations, the Senate Homeland
Security and Government Affairs Committee noted at a Monday briefing.]
The revelation came after DPW agreed to restructure its proposed acquisition of Londonbased Peninsular & Oriental Steam Navigation Co. (UK:PO: news, chart, profile) and resubmit the deal to an administration-level interagency task force known as the Committee
on Foreign Investment in the United States, or CFIUS, for an additional 45-day review.
But the Senate panel's chairwoman, Susan Collins, R-Maine, wanted to know why the
Coast Guard's warning didn't prompt an automatic 45-day probe the first time around.
"There were many intelligence gaps concerning the potential for DPW or P&O assets to
support terrorist operations that precludes an overall threat assessment of the potential
merger," warned unclassified portions of a Coast Guard document quoted by Collins.
"The breadth of the intelligence gaps also infer potential unknown threats against a
large number of potential vulnerabilities," the document said.
"In this case, the concerns that you're citing were addressed and resolved," said Clay
Lowery, assistant secretary for international affairs at the Treasury Department. Treasury
serves as chairman of CFIUS.
Coast Guard Adm. Thomas Gilmore also assured lawmakers that any concerns were
addressed, but said he would have to delve into classified portions of the document to
explain how.
Collins, however, said she remained unclear why administration officials believed that
the warnings raised in the unclassified portion of the report didn't meet the threshold for
an extended 45-day investigation required under the statute that governs the CFIUS
review process.
The statute requires the extended probe "in any instance when an entity controlled
by a foreign government seeks to engage in a merger, acquisition or takeover that
could affect the national security of the United States," Collins said.
"How, given the red flag questions that the Coast Guard raised, very serious questions
about operations, personnel and foreign influence, how could there not have been the 45day investigation that's clearly required by law?" she asked.
Stewart Baker, assistant secretary for policy, planning and international affairs at the
Homeland Security Department, emphasized that the company and Dubai authorities
agreed to a range of "unprecedented" assurances on all such issues.
But Collins said the fact that such assurances were required only bolstered the argument
that the transaction met the threshold for an extended review.
DPW's decision to seek an additional review of the acquisition defused a collision
between Bush and a broad, bipartisan chorus of congressional critics, including House
Speaker Dennis Hastert, R-Ill., and Senate Majority Leader Bill Frist, R-Tenn.
Frist and other lawmakers had vowed to press legislation that would put a hold on the
deal and give Congress more oversight of the review process. Bush had threatened to
veto any legislation that delayed the closing of the transaction, which was originally set
to occur around March 2.
Frist on Sunday said he would hold off on legislative action during the new review, but
said Senate committees would continue to look into "all aspects" of the deal, while also
examining ways to "reform the CFIUS process."
You would probably want to analyze this as a public bad- i.e. terrorism, rather than
as an information asymmetry. The role of information in giving one competitor an
advantage over another or one insider an advantage over another in an enterprise in
a market is the kind of information to which information asymmetry applies.
Information in the terrorist context is about destroying people, not about
4. This is a clear example of information asymmetry. Key decision makers do not
have access to the same information. Government intervention is highly
appropriate when the public at large can be in harms way. In my opinion, it is the
government number one responsibility to protect its citizens. I would not elect to
change any policy here, however, the policy must be followed! In this case there
was a clear violation of the policies the government has in place. There should be
repercussions for the individuals involved with the policy violations.
5. Regulatory Impact Study: There is to fiscal or economic benefit for the government
to create these policies. They are for protection of the public.
Market Failure: Dynamic
The OPEC Protection Act
February 17, 2006; Page A12
Now that President Bush has declared a national commitment to end our alleged
addiction to foreign oil, naturally the first energy bill that Congress wants to enact this
year would make America more dependent on foreign energy companies.
That would surely be the result if Congress passes two provisions buried in the Senate
version of a tax bill now in House-Senate conference: One is a tax on oil company
inventories, which is a disguised windfall profits tax on five big oil companies; the
second would repeal the foreign tax credit for the same companies.
Democrats -- and Maine Republican Olympia Snowe -- promoted the provisions late last
year as a way to punish the companies whose CEOs had defended their pricing policies
before Congress. But the more you understand the details, the nuttier this looks. For
example, the $4 billion to $5 billion windfall tax on inventories applies only to the
reserves of U.S.-based oil producers (such as Exxon and Chevron), while foreign
producers pay nada.
This is an energy policy only Arab oil sheiks could love, because it drives their
production and profits up, at the expense of home-grown producers. [When Congress last
passed a windfall tax on oil in 1980, America's domestic crude oil production plunged
and demand for foreign oil increased by almost 15%.] We imposed a tax on ourselves and
OPEC nations got the windfall.
Equally wacky is New York Senator Chuck Schumer's idea to deny the same companies
the U.S. foreign tax credit -- a fixture of the corporate income tax since 1917. If this took
effect, American oil companies would have to pay the U.S. corporate tax rate and the
taxes in the country where it produces the oil. Almost no other nation in the world
requires companies to pay a double tax on foreign profits.
So if Mr. Schumer has his way, U.S. oil companies would have to pay as much as a 25%
higher tax on foreign-produced oil than if it were drilled from the ground by a French,
Chinese or Danish firm. Mind you, the U.S. would still import the oil, but any profits
from that oil would flow to foreign, rather than U.S., firms and investors.
Yes, oil companies are making big profits. Exxon's 2005 profit of $36.1 billion was the
highest of any firm in American history. That sure seems preferable to the results of, say,
General Motors, which is losing money and laying off workers. The S&P 500's earnings
growth would have been one-third lower since the fourth quarter of last year if it were not
for the energy industry. Investors beware: Tax away those profits and Washington may
well promote a bear market.
The latest justification for these ideas is that the oil companies paid tiny royalties on
many of their offshore leases. But Uncle Sam freely entered into these contracts. The
companies then took the risk of investing billions of dollars in new production, even in
the 1990s when prices were at less than $15 a barrel and profits were smaller. It's hardly
equitable to retroactively tax the companies on deals consummated a decade ago simply
because they turned out well for these firms. This isn't tax fairness; it's confiscation.
In any case, the biggest "windfall" from high oil prices hasn't gone to the oil companies
but to federal, state and local governments. The Tax Foundation reports that the average
tax on gasoline is 46 cents a gallon. The average profit that the oil industry earns on that
gallon of gas, even at today's high prices, is 18 to 20 cents. The government already grabs
$2 for itself for every dollar the energy companies and their investors receive. The
harmful addiction problem here isn't Americans to oil. It is politicians to taxes.
4.
Policy: This is a great example of a complete government failure to protect the
US consumer. This policy ignores the source of the market failure, and increases the
overall problem by invoking new taxes on US oil inventories. At the same time, this
policy removes the tax credit for foreign produced oil. In short, the consumer will pay
more at the pump no matter where the oil is produced. As discussed in the article, recent
history clearly demonstrates the failure of this policy. To compound the problem, at a
time when the consumer is being gouged by the oil industry for each gallon of gas, our
government adds to that an average taxation of almost 50 cents per gallon. Industry
collusion, fueled by Washington lobbyists, plus government greed and corruption is at the
heart of the problem.
To correct this policy problem, several steps are required. 1) Immediate sales tax
reduction of 25 cents per gallon of gasoline. This savings will show up in other consumer
retail purchases and improve consumer confidence. 2) An independent investigation
should be commissioned to look into the collusion that exists in US oil industry and fines
assessed. In addition, the monopolistic breakup of the industry should be considered in an
effort to increase competition. 3) A special luxury tax should be invoked against US oil
companies such as Exxon ($36.1 Billion of profit in 2005) that unfairly charge for their
product. This could be addressed by simply taxing heavier once profits reach certain
levels.. 4) Special government assistance and tax breaks for car companies that provide
vehicles that lesson the dependency on fossil fuels with increased fuel economy (by a
minimum of 50%) beginning in 2008. 5) Create government programs that encourage
non-oil industry corporations to develop alternatives to fossil fuels such as Hydrogen,
solar or electric energy. 6) Until US dependency for foreign oil declines, the tax on US
oil inventories should not be instituted, nor should the foreign tax credit be repealed.
EXCELLENT!
5.
Regulatory Impact Studies: Although any government study will be tainted by
oil company lobbyists, the recommendation is to perform an Economic Impact Analysis
on the proposed policy correction plan. Probably you would use an industry study here to
figure out many of the subjective and market structure issues, but Regulatory Impact
studies could work. By the way, any old regulatory study with no clear methodology or
goal is all too common in government- there really isn’t asingle identifiable category of
such studies unless you arbitrarily want to classify any study done by a regulatory agency
as a regulatory study.
http://online.wsj.com/search/full.html#SB114014611435676692
EXI06SHannahASSN3
Examples of Market Failure
Article #1 – Externality:
High Sugar Prices
Leave Sour Taste
For Confectioners
By ILAN BRAT
February 24, 2006; Page A2
The cost of sweet indulgence is
beginning to rise.
As sugar prices world-wide have soared
in recent months, bakeries and
confectioners have begun to raise prices,
and some sugar farmers have reversed
course and asked Washington to allow
more sugar imports to ease shortages.
Chicago-based Blommer Chocolate Co.,
one of the largest chocolatiers in the U.S., recently raised some of its prices
on coatings and other products by 8%. After its sugar costs rose more than
40% last fall, Angel Food Ltd., a bakery and cafe in Chicago, marked up
some of its goodies. A 2-by-3-inch brownie there now runs $2.50, up from
$2.
Sugar has been dealt a one-two punch. Last year, hurricanes damaged U.S.
sugar crops and refineries in Louisiana and Florida, and a smaller-thanexpected sugar-beet crop in the Midwest reduced potential sugar supplies.
Meanwhile, sugar supplies have tightened on the international market.
Brazil, the world's largest sugar exporter, has begun using much more of its
sugar-cane crop to make ethanol for use as an alternative fuel in motor
vehicles.
1
All of this has helped boost domestic prices on contracts for future
delivery of raw sugar by 25% to about 25 cents a pound from about 20
cents in early September. Internationally, raw futures prices have hit
quarter-century highs, nearly doubling since September.
On the New York Board of Trade yesterday, futures for the March frontmonth contract fell 0.76 cent to 17.50 cents per pound.
Several large food and candy makers were vague or declined to comment
when asked if they would raise prices to reflect increased sugar costs. Large
food companies typically are able to lock in purchasing prices through longterm contracts, allowing them to weather price rises better than smaller
operations.
But pressure is mounting. A spokesman for privately owned McKee Foods,
maker of Little Debbie snack cakes and other desserts, said sugar prices have
cut into its earnings. Last month, Hershey Co. said that it expects increases
in its input costs, including sugar, this year. McKee and Hershey declined to
say whether they will raise prices.
Sugar producers are struggling. Florida sugar-cane growers, who lobbied last
year against any easing of sugar-import quotas, found themselves in the
position last month of asking the federal government to allow more sugar
imports to prevent shortages this season, says Barbara Miedema, a
spokeswoman for the Sugar Cane Growers Cooperative of Florida. Without
an increase, sugar-cane growers said, they could have trouble meeting
supply contracts.
SWEET PAIN
• In India, It's a Rush for Sugar, Tea
02/15/06
• Commerce Department Faults U.S. Sugar Policy for Job Losses
02/09/06
• Why Sugar Costs More And More
02/09/06
The rising prices occur as U.S. sugar policy is coming under fire for keeping
domestic prices artificially high. [This month, the Commerce Department
released a report that faulted the policy for the loss of 10,000 U.S. jobs
from 1997 to 2002 because government programs insulate sugar
farmers from cheap imports and force U.S. food companies to spend
more on sugar than foreign competitors.]
3
This month, the Agriculture Department agreed to allow into the U.S.
an additional 500,000 tons of raw and refined sugar. In the year to Sept.
30, 2005, the U.S. imported about 1.4 million tons of sugar. In 2006, the
estimated import quota is 2.6 million tons.
2
"We're hat in hand, scrounging around looking for sugar," domestically and
abroad, says Richard Pasco, a spokesman for the Sweetener Users
Association, a lobbying group whose members include food and candy
makers. "We've got to...have more sugar on top of that."
Write to Ilan Brat at ilan.brat@wsj.com
4
The U.S. government has put in place a policy to protect sugar growers.
While this policy has helped to prop up the price of sugar this intervention
has led to a loss of over 10,000 jobs. A cost benefit analysis has been
performed by the Commerce Department that documents the adverse impact
on the economy that this policy is causing. This study has clearly
demonstrated that when the government intercedes in the market
unintentional side effects occur. For example, when a number of external
events occur like the hurricanes and sugar beet shortages mentioned above it
limits the amount of product available creating shortages. This has led to a
large increase in the cost of sugar. I believe that government should not be
involved in any form of government price support.
5
Cost Benefit Analysis: The study has already been performed and clearly
documents that the costs to our nation in job losses exceed the benefits
received.
Excellent article and example. BUT… you have identified the market failure. Why
is the government intervening? Because in WWII Japan cut off our supplies of
sugar. Sugar independence becomes a goal because it protects all of us from
shortages from which we cannot be insulated… i.e. it is a public bad. You then do a
great job of analyzing the government intervention… but the key issue is- what
would happen if the market were allowed to provide the product itself?
Article #2 – Market Power:
States Seek Ways to Curb
Surging Electricity Bills
Many Consumers Face Jolt
Arising From '90s Changes;
Connecticut's 22% Increase
By REBECCA SMITH
February 28, 2006; Page A1
With consumers in many parts of the country facing sharp increases in their electricity
bills, officials in some states are considering rate caps or other measures that would beat
back deregulation.
The expected increases stem from the deregulation of retail electricity markets and the
recently soaring costs of the natural gas used to generate electrical power. In the 1990s,
nearly half of the states deregulated electricity in hopes of fostering competition and
ultimately lowering prices for consumers. To give competition time to take hold and
guard against market disruptions, many states lowered, and then froze, electricity rates
for a few years or found other ways to temporarily stabilize prices.
Rate freezes already have expired in several states, including New Jersey, New York and
Ohio, and the last vestiges of rate regulation are set to expire this year in a half-dozen
large states, including Illinois, Michigan and Texas. The big rate increases on the horizon
in some states have undermined support for deregulation among both consumers and
policy makers.
In Delaware, for example, customers of Pepco Holdings Inc.'s Delmarva Power unit face
a 59% to 117% rate increase in May that would push the average residential bill to $145 a
month from $91 for 1,000 kilowatt hours of electricity; industrial users face the biggest
increase. Northeast Utilities' Connecticut Light & Power Co. customers face a 22%
increase in rates, which would add $23.36 a month to the average household's bill. In
Texas, rates have risen more than 80% for customers of the state's biggest utility, TXU
Corp.
"High prices almost guarantee a political reaction," says Kenneth Rose, senior fellow at
the Institute of Public Utilities at Michigan State University.
Until deregulation, utilities generally owned the power plants that furnished electricity to
their customers. They sold power at regulated prices based on their costs. As states
started to deregulate, many utilities sold their power plants to unregulated affiliates or
others. For a time, they continued to buy power under contract from their former plants.
Many of those deals are coming to an end, leaving utilities to negotiate new supply
contracts at a time when high natural-gas prices have driven up wholesale electricity
prices.
That has provided a special boost for owners of nuclear and coal-burning power plants,
who benefit from sharply higher electricity prices but whose fuel costs typically are low
compared with natural-gas-fired plants. "Customers I talk to find it amazing and
disturbing that this is happening," says Dave Kolata, head of the Citizens Utility Board, a
Chicago consumer group.
Edison International, Exelon Corp. and Constellation Energy Group Inc., which own
many non-gas-fired plants, may be among the biggest beneficiaries, but many smaller
players also could profit from being able to sell to utilities that had been under contract to
another provider.
[Some state officials are stepping forward to propose rate caps and other measures meant
to hold down increases in electricity bills. But the proposed fixes could put utilities in a
cost squeeze. Similar proposals backfired five years ago during California's electricity
crisis, bankrupting the state's biggest utility.] Critics also say the measures do nothing to
fix the underlying problem of surging wholesale power costs.
In Maryland, a growing group of lawmakers wants to limit rate increases to 5% a year
amid evidence that prices at Baltimore Gas & Electric Co. otherwise could surge 40% to
80% in July when a six-year rate freeze ends.
With the entire General Assembly and governor up for election, "you don't have to be
brilliant to see what's coming" if lawmakers fail to act, says Delegate Patrick
McDonough, a Republican from Baltimore and sponsor of the bill that would limit rate
increases. Ahead of deregulation, BG&E transferred its power plants to an unregulated
unit of parent Constellation Energy. That unit had a 46% increase in fourth-quarter
profit.
Paul Allen, a spokesman for Constellation Energy, says his firm hopes Mr. McDonough's
bill "is a political gesture, not a piece of serious economic legislation" because it wouldn't
give BG&E enough money to buy electricity for its customers. That could lead to a
situation similar to that faced by Pacific Gas & Electric Co. in 2001, when runaway
prices in California's wholesale electricity market pushed the San Francisco company into
bankruptcy court because it wasn't permitted to raise retail rates enough to cover its
higher power costs. Eventually, those costs were imposed on consumers.
Connecticut Attorney General Richard Blumenthal last week asked the Legislature to
impose a windfall-profits tax on nuclear generators whom he says are reaping "excessive"
profits. The state's utility regulators also have been working to delay some rate increases
until the winter heating season ends.
Mr. Blumenthal says he believes nuclear plants are reaping returns of 44% to 100%,
compared with the 10% or so they were permitted when owned by regulated utilities. Mr.
Blumenthal wants the Legislature to impose a 25% to 50% tax on profit margins in
excess of 20% and use proceeds to offset electricity costs.
Dominion Resources Inc., Richmond, Va., which owns two nuclear units in Connecticut,
says profit levels at the nuclear units are "proprietary" and it opposes a windfall-profits
tax. Some nuclear plants that were poorly run by utilities have become stellar performers
under new owners, such as Dominion and Exelon, which can command market prices.
Mr. Blumenthal also wants Connecticut to create a state power authority that would sell
energy at the cost of production. California attempted a similar tactic during its energy
crisis but later dismantled the fledgling agency when it concluded it was impractical for
the cash-strapped state to produce and sell power.
In Illinois, legislators were expected to introduce this week a bill to extend a decade-old
retail rate freeze for three years. That is similar to what Ohio did last year when it
postponed its own day of reckoning to 2008, hoping for lower prices by then. But a rate
freeze in Illinois would do nothing to prevent power procurement costs from rising
sharply for utilities owned by Exelon and Ameren Corp., which will begin buying power
for millions of customers through energy auctions this year to replace expired supply
contracts.
John Rowe, Exelon's chairman, says his firm would be willing to defer some power costs
for collection in future years to reduce the immediate impact to customers of
Commonwealth Edison, Exelon's Illinois utility unit. He adds that such measures amount
to Band-Aids and "making a market system that works here is still a problem" that must
be worked out.
The beginnings of a backlash may even be brewing in Texas, a staunch supporter of
deregulation. The chairman of the Texas Public Utility Commission says he wants to haul
utilities before his body to explain what they intend to do once the last vestiges of rate
regulation end this year. He hasn't been able to win support from other members of the
commission.
Michigan, meanwhile, has been among the bright spots for consumers. The state's utilities
didn't divest their power plants, most of which are coal-fired or nuclear and thus have
relatively low operating costs. Although a rate freeze ended there for small consumers in
January, rates are up just 6% to 7%.
Write to Rebecca Smith at rebecca.smith@wsj.com1
4
Government regulations had been in place for decades to limit the prices that utilities
could charge for electricity. With deregulation, the thought was that consumers would
benefit since utilities would be able to source electricity on the open market for the
lowest cost. Perhaps too much deregulation occurred. Few if any controls were put in
place. For example, utilities were allowed to sell off their power plants, and in doing so
they locked in rates for a period of years for them to buy electricity. After these rate
periods started to expire the power generators are now charging substantially higher rates.
These higher rates could be occurring for a number of reasons:
 The prior rate was locked in at artificially low prices that did not allow the new
owners of the power plants the ability to generate the necessary profit for the risks
of being in this business.
 There is the potential that the spot electricity market is being manipulated (e.g.
Enron’s market manipulation of the market in California).
Either way the ratepayers were not protected from the wild price swings. Perhaps this
industry should have some minimal amounts of regulations if the market cannot correct
itself. One example is that the utilities should be required to hedge some percentage of
their power requirements. Fuel hedging made the difference of Southwest Airlines being
profitable over the last couple of years with the doubling of oil prices.
5
Industry Study: an industry study Should be used here to figure out many of the
subjective and market structure issues surrounding utilities (eg. economies of scale).
Such studies also allow conclusions to be made on the conduct and performance
expected in the market which is what we are specifically interested in this case and
which is abundantly clear in this article. Such studies are particularly useful on
issues such as market power and they allow consideration of a wide number of
government interventions such as preventing mergers (antitrust), price controls, etc.
Article #3 – Inequity:
Pork Chops
In Fight Against Farm Subsidies,
Even Farmers Are Joining Foes
A Snowballing Movement
Draws Churches, CEOs;
Huge Hurdles in Congress
A Bolster to WTO Pressure
By SCOTT KILMAN and ROGER THUROW
March 14, 2006; Page A1
AMES, Iowa -- A movement to uproot crop subsidies, which have been worth nearly
$600 billion to U.S. farmers over the decades, is gaining ground in some unlikely
places -- including down on the farm.
In Iowa, one of the most heavily subsidized states, a Republican running to be state
agriculture secretary is telling big farmers they should get smaller checks. Mark W.
Leonard, who collects subsidies himself and campaigns in a white cowboy hat, told a
room full of farmers recently that federal payments spur overproduction, which
depresses prices for poor growers overseas.
"From a Christian standpoint, what it is doing to Africa tugs at your heartstrings," Mr.
Leonard told them. Last year, he helped humanitarian group Oxfam International in its
anti-subsidy campaign by escorting a cotton farmer from Mali to church gatherings
near his farm in Holstein.
There is a long history of mostly failed attempts to pare farm
payments. But the current anti-subsidy sentiment, rising over the
last year in the U.S., is stirring attention because it is unusually
broad. Students for Social Justice at Baylor University in Texas
have dumped cotton balls on the ground to protest cotton
subsidies. The foundation of late Nascar legend Dale Earnhardt
has teamed up with rock star Bono, whose movement wants to
overhaul Western agriculture policies to boost African
development.
In Washington, D.C., the Alliance for Sensible Agriculture
Policies is meeting to share ideas about changing the farm bill.
Participants include Oxfam and Environmental Defense from the
left, the National Taxpayers Union on the right and the libertarian Cato Institute.
Prominent philanthropic organizations, including the William and Flora Hewlett
Foundation, are financing some of this advocacy.
"There are a growing number of people who want to weigh in on farm policy," says
Rep. Jerry Moran, a Kansas Republican who sits on the House Agriculture Committee.
"They care about Africa. They care about the environment. They care about nutrition."
Grass-roots groups are riding the momentum that began with the push to forgive the
debt of poor countries in the late 1990s. Another spur to the anti-subsidy movement
comes from the World Trade Organization, where the U.S. is coming under increasing
pressure to rein in farm spending.
The movement is tilting against one of the most deeply entrenched federal
entitlements. In 1996, a Republican-led Congress passed legislation to wean farmers
from subsidies over seven years. But Washington backed off as the farm economy
entered one of its cyclical tailspins. The 2002 farm bill signed by President Bush is one
of the most lavish ever, even as the economic cycle improved. Last year, the
government paid a record $23 billion to
farmers.
Shayne Moore, third from left, learns to
pick tea leaves in Kenya with fellow
members of the Wheaton Bible Church
There isn't any serious talk in Washington of
wiping out subsidies entirely, and the
powerful farm lobby has defended itself
against attacks in the past. Legislators
representing districts with farming interests, particularly states growing subsidy-rich
cotton and rice, consider this a crucial issue and could well block any change in
Congress. Because almost every state has farmers, virtually all 100 senators can
sympathize with farming interests. In addition, the Senate and House agriculture
committees have dominated policy for decades and are largely given a free hand by the
governing administration.
from Wheaton, Ill.
But now, farm leaders, federal officials and politicians are seriously discussing
alternatives, such as buying farmers out from subsidy programs, incentives to
encourage farmers to save during good years and paying growers for environmentally
friendly practices. The system could be changed during the current Doha Development
Round trade negotiations at the WTO or in Congress during next year's renewal of the
farm bill.
Any significant change in the payment formula would rock the farm economy. Federal
money could shift between regions, possibly at the expense of Southern farmers who
are subsidized to such a degree currently that no new system would likely maintain
their level of payments. The price of land, which is tied to the income it generates,
would likely fall, denting farmers' biggest source of wealth and collateral.
Moreover, farmers could change what they grow, for example from cotton to
vegetables, and U.S. consumers could see food costs rise. The gluts spurred by
production-based subsidies are a key reason the U.S. enjoys some of the world's lowest
food prices.
The government created subsidies during the Great Depression to fight rural poverty.
At the time, 25% of the U.S. population lived on farms. Farmers could get federal
money for producing commodities including corn, cotton and wheat when market
prices fell below certain levels.
Today, farmers represent less than 1% of the population. Yet, thanks to labor-saving
technology, their operations have exploded in size. [Since subsidies remain tied to
production, subsidy checks have ballooned. The government caps annual payments to
an individual farmer at $360,000, though loopholes allow higher payments.]
Most subsidies go to farmers who are wealthier than the typical U.S. taxpayer. Little of
it goes to poor farmers because subsides are tied to production. According to an
analysis by Environmental Working Group, 72% of subsidy money goes to 10% of the
recipients. The group opposes output-linked subsidies on the grounds that
overproduction hurts the environment. Nor do subsidies do much for rural economic
development. Most rural people are no longer engaged in farming and two-thirds of
those who farm are growing nonsubsidized crops such as fruits and vegetables.
Reform Camp
The Bush administration is in the reform camp.
At the WTO, it has offered to cut by 60% the
amount of money it can spend every year on
certain subsidies, if the European Union cuts by
83%, a move that the U.S. says would bring both
blocs into line. Last month, the White House
Council of Economic Advisers took the unusual
step of devoting a chapter in the annual
"Economic Report of the President" to
lambasting crop subsidies, saying they "hurt
countries that could benefit from exporting these
commodities to the United States."
President Bush has yet to propose his own
specific solutions. Administration economists
say there are lots of ways to get money to
farmers that don't depress international prices, such as insurance programs that protect
against big drops in revenue.
The White House has the support of other businesses that would like to see the subsidy
question settled in order to spur the lowering of overseas trade barriers on their goods.
During a recent meeting in a private club on Chicago's Michigan Avenue, business
executives, bankers and economists dined on stuffed chicken served on bone china
while preparing a report arguing for an overhaul of the farm program. Several
participants are executives of Fortune 500 companies. The task force was assembled
by the Chicago Council on Foreign Relations, an 84-year-old nonprofit group that
includes many of the Midwest's biggest firms.
The grass-roots campaign to reform subsidies is similar to the one that raised the
profile of the African debt crisis. One of the main debt-relief agitators, Irish rock star
Bono of the band U2, made a 14-city U.S. speaking tour in November 2002 to raise
awareness of African poverty, especially among churches and the Christian music
scene.
Bono's advocacy organization, Debt AIDS Trade Africa, or DATA, has now joined
with the One Campaign, an alliance consisting of organizations such as Oxfam, to
target agriculture policies and subsidies. "If you care about debt cancellation and
AIDS, then you have to care about the trade issues, too," says Jamie Drummond,
executive director of DATA.
By campaigning on campuses, at rock concerts and at Nascar races, these activists
have generated hundreds of thousands of petition signatures and postcards addressed
to President Bush, U.S. Trade Representative Rob Portman and members of Congress,
urging them to reduce farm subsidies.
One of those listening on Bono's speaking tour was Shayne Moore, a 35-year-old
mother of three in Wheaton, Ill. Ms. Moore, a graduate of Wheaton College, an
evangelical-Christian school near Chicago, says she "couldn't figure out what my
conservative alma mater was doing giving Bono a voice." But "that night changed my
life. Bono said something like, 'Politicians get nervous when rock stars and soccer
moms get involved.' Well, I thought, I'm a soccer mom."
She traveled to Honduras and Kenya at her own expense, and to last summer's meeting
in Scotland of the Group of Eight leading nations, a trip that was paid for by aid
groups. Back home, she tells groups what she has seen. "The person picking cotton in
rags is just as important as the person picking cotton in an awesome combine," she
says in an interview. "I don't begrudge him the awesome combine, but not at the
expense of the farmer in rags."
Some humanitarian groups are spreading their message in states that are home to key
members of congressional agriculture committees, hoping to exploit splits within the
farm business. Subsidized grain farmers in the Midwest are jealous that Southern
farmers get more aid for cotton and rice. Young growers complain that subsidies raise
the price of land to unaffordable levels. Oxfam America has had five organizers
working for more than a year in states such as Kansas, Illinois and California.
The field organizer in Kansas is a far cry from the typical idealistic humanitarian
worker. A farmer who often votes Republican, Jim French, 52, abhors attentiongetting stunts such as dumping crops on the ground. He came to the attention of
Oxfam through his work for Kansas Rural Center, a nonprofit advocacy group for
family farmers.
He's pushing the idea that subsidies should be linked to something other than
production, such as environmental improvements. "There's a common solution for a
problem of the farmers on the Great Plains and a problem of the farmers in Africa,"
Mr. French says.
He has driven his 12-year-old, hail-pocked Buick LeSabre nearly 20,000 miles over
the past year for Oxfam, speaking at farmer conventions, prodding editorial writers at
Great Plains newspapers and attending community meetings with members of
Congress home from Washington. Last September, he collected hundreds of signatures
for a fair-trade petition at a concert in the suburbs of Kansas City, Kan., by a British
band he'd never heard of before: Coldplay. In April, he plans to escort an African
farmer around the Great Plains.
Mr. French directs a church choir in his hometown, Partridge, Kan., so part of his
strategy is to seek out clergy. One recent morning near Hutchinson, nine Mennonite
church leaders gathered at a roadside restaurant called Dutch Kitchen. Mr. French
wanted to address their congregations. "Instead of constantly sending food aid to
Africa, we could do so much more to improve their lives if we make the markets fair,"
Mr. French said. "Doesn't this message fit with the Gospels?"
Intriguing Question
Mennonites usually avoid political arguments. But the question intrigued the bearded
men, some whom have done missionary work with poor farmers overseas. Pastor
Miles Reimer said they'd consider Mr. French's appeal. "I think the Mennonites would
lean towards helping the small farmers around the world," he said.
In Iowa, Mr. Leonard's campaign for state agriculture secretary wouldn't put him in
position to directly change federal policy. But his status as a leading Republican
candidate reflects a growing dissatisfaction there with the way subsidies work.
On the campaign stump, Mr. Leonard, 49, who raises cattle and crops, argues that
production-based subsidies increase farmers' incentives to get bigger, a development
that's speeding the depopulation of the countryside as farmers buy up more acreage.
"Inadvertently, it is a government-sponsored farm-consolidation program," he tells a
group of farmers in Ames. "What we need is for that subsidy money to be divided
among more farmers."
That sentiment brought him into Oxfam's orbit. Last year, the group was seeking a
farmer to speak in Washington in a favor of legislation co-sponsored by Iowa
Republican Sen. Charles Grassley that would cut the maximum subsidy payment to a
farmer to $250,000 from $360,000. The proposal was defeated in November, 46-53,
but the debate helped to pull together people of disparate politics now mobilizing to
work on the next Farm Bill.
"As a conservative, Oxfam and I can disagree on a lot of social issues," says Mr.
Leonard, who leaves his Oxfam button at home while out campaigning. "But for us to
agree on subsidies means something big is happening."
URL for this article:
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4
Subsidies paid to farmers affect everyone in the United States as well as many countries
throughout the world. For example, the gluts spurred by production-based subsidies are a
key reason the U.S. enjoys some of the world's lowest food prices. However, the federal
payments, which spur over production depresses prices for poor growers overseas.
Serious consideration should be given to eliminating the subsidies, or at least altering
them to close the loopholes that encourage overproduction. A number of benefits are
possible:
 Lowering the amount of money paid in subsidies. Last year the government paid
$23 billion to farmers.
 Eliminating the overproduction will cause prices to rise helping some of the
poorest people in the world.
 The following information is not covered in this article but is applicable.
According to the FBI poverty around the world especially in Muslim countries
creates an environment conducive to recruiting terrorist. By raising the standard
of living around the world it might help is reducing terrorism. In other words
there is a public bad dimension to this problem!
5
Cost Benefit Study: There is little reason for the government to continue
paying farmers to overproduce crops.
Inequities
U.S. Tightens Rules
On Cancer-Causing Chromium
By JOI PRECIPHS
February 28, 2006; Page D6
WASHINGTON -- Federal regulators set a stricter new standard for worker exposure to
hexavalent chromium, a cancer-causing metal that is a hazard in the steel working, welding
and jewelry trades.
The action comes after a federal appeals court had ordered the government to act in 2003.
Dissatisfied activists, however, threaten further legal action.
The Occupational Safety and Health Administration said that effective today it
would lower its permissible workplace exposure limit to hexavalent chromium and
all related compounds to five micrograms per cubic meter of air from 52 micrograms,
the standard set in 1971. An earlier proposal would have reduced it further, but that was
ultimately rejected.
Hexavalent chromium -- used to produce chromate pigments and dyes and in
stainless-steel welding and chrome plating -- can cause lung cancer, nasal-septum
ulcerations and perforations, skin ulcers and allergic and irritant contact dermatitis.
Under the new five-microgram standard, OSHA said an estimated 10 to 45 workers per
1,000 could develop lung cancer over a lifetime of exposure, compared with 2.1 to 9.1
cancers per 1,000 workers under a one-microgram standard that had been suggested. Even
so, OSHA officials said that under the new standard 100 to 145 cancers a year would be
avoided among the estimated 67,000 workers currently exposed to airborne hexavalent
chromium beyond five micrograms.
The agency estimates the new standard will cost the industry $282 million a year. Companies
have 180 days from the effective date of the standard, or by November 2006, to comply with
its provisions, except for engineering controls. Companies with 20 employees or less have a
full year from the effective date to put the changes into effect.
The rule-making change comes on the heels of a recent report in Environmental Health by
Public Citizen and George Washington University's School of Public Health saying the
chromium industry held back data about chromium-exposure risks and lung cancer from the
agency during its rule-making investigation. Without the information, representatives from
both groups say OSHA, a division of the Labor Department, has set a benchmark that
continues to jeopardize the estimated 558,000 people exposed to the metal in the workplace.
[Although conceding a "significant risk" exists at the new level, OSHA's acting
assistant secretary for occupational safety,] Jonathan L. Snare, said the agency has
developed a standard that "substantially reduces the significant health risks" for occupational
exposure to the metal and includes stronger provisions for exposure control, respiratory
protection, protective clothing and equipment, hygiene, medical surveillance, hazard
communication and record keeping. Mr. Snare said the new standard is set at the "lowest
level that is feasible, both technologically and economically."
Source: WSJ
4. Workers in blue collar industries tend to be more exposed to occupational disease
causing agents than those in other lines of work. Along with this increased risk, they
are generally less educated regarding the potential consequences of these exposures.
In the past, unions might have been responsible for trying to improve workers’
health but this influence has decreased in recent years. This leaves a potentially
vulnerable population to rely on government regulation to protect it from toxic
chemical exposures on the job. Since these occupational diseases commonly take
many years to develop in workers, there is no near-term effect on worker
productivity. Business has a difficult time looking beyond the next quarter’s
earnings, let alone to an event which may be ten or twenty years down the road. For
this reason, government regulation is necessary in this area. Industries will incur
financial and productivity costs in order to comply with these new regulations.
Another problem of this new regulation will come from the unpredictable nature of
enforcement and interpretation that tends to occur with OSHA.
This is an excellent analysis, but it is inconsistent with your cost-benefit analysis
somewhat. You are going beyond trying to add up the net benefits and costs and are
delving into the way to take care of the problem. Your statement “Industries will
incur financial and productivity costs in order to comply with these new regulations.”
Is a statement that some kind of analysis has been done that it is worthwhileprobably a regulatory impact analysis.
The regulatory impact part approach would have been something like the following:
1.
2.
3.
4.
5.
6.
7.
8.
The size of the danger of the market failure is…
A regulatory agency can do such, and such…
The administrative cost of doing such and such is…
The compliance cost of doing such and such is…
The size of government failures of this agency are likely to be… (which do
or don’t offset the benfits)
The efficiency costs to society of the regulatory impacts also includes.
The additional benefits of having an administrative agency are….
Therefore, it is probably a (good?bad?) idea to have the government
intervention through the regulatory authority.
5. Cost benefit analysis-The new chromium exposure level was set at a level to decrease
the potential cancers workers might develop, but not to reduce the cancers to the
lowest possible level. The cost to business is being weighed/balanced against the
desire to reduce occupational disease development.
Externalities
Green measures to safely dispose of medical waste
A large-scale environmentally friendly project for the disposal of medical waste will be
carried out under the co-operation of the country's top environmental watchdog and the
international community.
The project will cost around US$45 million, nearly half of which will come from the Global
Environment Facility.
Planned to run for four years, the project aims to reduce the production of Persistent
Organic Pollutants (POPs) during the disposal of medical waste by improving the current
treatment facilities and establishing new advanced services.
According to figures from the State Environmental Protection Administration (SEPA),
China now produces more than 1,500 tons of medical waste a day, and this figure is likely to
rise. Experts say if SEPA does not consider the reduction of POPs, it may lead to a serious
pollution risk, especially in levels of dioxin.
Currently, the country's treatment facilities mainly use combustion techniques.
"However, according to my investigation, most of the country's 171 incinerators for
medical waste do not reach the correct standards for pollution control," said Wu
Shunze from the Chinese Academy for Environmental Planning.
For solving the pollution problem, the State Council ratified SEPA and the National
Development and Reform Commission to compile the "Hazardous Waste and
Medical Waste Treatment Facility Construction Plan."
"Although we now have regulations on how to treat medical waste, [there are still many
difficulties since the plan is not very practical or complete], " said Wu Yinghong from
the Ministry of Health.
Source: China Daily 02/25/2006 page 2
4. Medical practitioners, with the exceptions of those in public health type practice, are
consistently trained to focus on the patient in front of them at a particular moment.
This focus provides great benefit to the patient at that time but keeps the practitioner
from looking at the greater context in which both the patient and the rest of society
exist. Medical waste is a by-product of almost all medical examinations or
procedures. This individual focus creates the need for government regulation in the
area of medical waste disposal. These by-products have a true potential for negative
impact on other members of society through the spread of pathogens. Since the
practitioner’s focus is on the individual, the government’s role needs to be to protect
the greater society from the undesirable elements of that care through regulation.
Increased regulation regarding the disposal of medical waste will undoubtedly require
more money and resources that simply tossing used blood tubing in a landfill.
Ultimately this cost will be passed back to consumers in some form or fashion,
whether through increased taxation or higher healthcare costs.
5. Regulatory impact analysis-This regulation is based primarily on social objectives. It
would be very difficult to objectively quantify the true outcomes, but costs will be
incurred to both the industry and government.
Dynamic Market Failure
From the February 17, 2006 print edition
Trauma center may be created on Maui
Kristen Consillio
Pacific Business News
Efforts to build the state's second trauma center, this one on Maui, is rallying statewide
support.
Maui Memorial Medical Center is the site for a proposed trauma facility that would relieve
pressure on The Queen's Medical Center in Honolulu, the state's only trauma center, and
spread the care of critically injured people beyond Oahu.
To pay to upgrade Queen's and the Maui hospital, legislators are considering taking money
from assorted surcharges and fines, including traffic violations and vehicle registrations, to
build a "trauma fund."
A shortage of specialists and transportation issues are delaying care for people who
are severely injured or critically sick on the Neighbor Islands. Some have waited hours
-- and sometimes days -- to be transferred to Queen's.
Meanwhile, Queen's has seen its emergency room volume double in five years and is
reaching the breaking point, with doctors complaining that everything but the most routine
cases are being transferred from the Neighbor Islands.
"Our trauma system has been pretty unhealthy for some time," said Toby Clairmont,
emergency program manager for the Healthcare Association of Hawaii. "Right now we have
all our eggs in one basket at The Queen's Medical Center."
The problem is worsening with the rapid population growth on the Neighbor Islands and
has prompted state and health officials to develop a new trauma system plan.
"We're a long ways from being prepared for a major disaster," said Dan Jessop, Queen's
chief operating officer. "If Queen's were knocked out ... where would patients go?"
Legislators are looking at creating a trauma fund, which would pay for
uncompensated costs of treating emergency cases. Health officials are drawing up a
statewide trauma plan, which will include upgrading existing hospitals over the next few
years.
Preliminary proposals call for Queen's to be upgraded from a so-called Level II trauma
center to a Level I facility, which means the hospital would need to increase research and
prevention programs.
Maui Memorial is looking to upgrade its facilities to handle Level III trauma cases and
eventually evolve into a Level II hub for Neighbor Island residents. Officials also are
considering a trauma facility at Hilo Medical Center.
"We know there's a lot of pressure on us to do that," said Wesley Lo, Maui Memorial CEO.
"The reason everybody wants us to do it is because there's no place to go on the Big Island.
We can start offloading the responsibilities of Queen's at Maui."
Recent studies by the American College of Surgeons and Hawaii's Legislative Reference
Bureau recommending the creation of a system for treating trauma patients has attracted
statewide attention. [The Legislature commissioned the reports on Hawaii's trauma
crisis last year after denying a $6.9 million subsidy for Queen's,] which asked for help
since it was treating the most urgent cases.
"If we can create capacity on the Neighbor Islands it resolves the issues with transportation
and also helps relieve some of the on-call issues so the guys at Queen's are not having to
serve everyone in the state," said Sen. Roz Baker, Senate Health Committee chairwoman.
The state Department of Health will head planning efforts for a trauma system and make
recommendations to the Legislature next year on how to implement the system and the
costs involved.
But the big challenge for Maui will be recruiting the critical mass of nurses and doctors
required in a trauma center and a plan for growth, Lo said.
"If you're going to go into trauma you need to be very careful on what services you provide,"
he said.
kconsillio@bizjournals.com | 955-8036
© 2006 American City Business Journals Inc.
4. The trauma system is an example of dynamic market failure. When the system was
first established it was considered a prestigious designation. Soon, the hospitals
discovered the downside of being a Level 1 or 2 center was that a disproportionately
large part of the population they served were either underinsured or uninsured.
These patients also tended to either not pay their bills or not have the resources to
pay. This caused many privately-owned entities to drop out of the system. Public
medical centers were left as the catch-all for the most severely injured patients. In
the current system of healthcare in the U.S., the government needs to remain
involved in the trauma system since there is little to no reason for for-profit or notfor-profit hospitals to take on this care. The cost of trauma care must be primarily
borne by the taxpayers in the end, much like care for the disabled and elderly. Some
trauma centers, such as Parkland Hospital in Dallas or Cook County Hospital in
Chicago, function as completely government-held entities and deal reasonably well
with the trauma care needs of their respective regions. Unfortunately, adequate
government funding often does not occur until a trauma care system hits the crisis
level. Failures occur due to the constant balancing of political needs, like cutting
taxes to ensure re-election, against the resource needs of the trauma system.
5. Cost benefit analysis-Hawaii is attempting to find a balance between increasing
efficiency [this would be a cost effectiveness study] of their trauma care system and
how many public dollars need to be spent. Most of the measures of benefit can be
measured objectively, number of transfers from outlying areas, wait times, etc[N ow
you are talking cost benefit].
Here’s how you untangle this.
Original market failure: public bad. No one can be insulated from accidents and
health problems. As a society we don’t want individuals, particularly when they are
incapacitated from being left to die; in other words there are externalities in terms of
everyone’s sympathy for the patient. However, patient care then becomes a public
good and there are free riders on public goods. So the article is about the need to
subsidize the care these people receive. How much is the subsidy? A Cost-Benefit
analysis can tell us what the net social-benefit might be from providing such
subsidized care.
But you are continually bringing up a separate issue- what is the most cost effective
way to deliver this c are. How can efficiency of delivery be improved. That is cost
effectivenss. You need to separate the two.
Although not saying it you have shown the government intervention is
subsidies.
Nice job in identifying the government failure: lag in response
Market Failure Type: Market Power
Qantas Keeps Lock on U.S. Route
Australia Won't Give Singapore Airlines Trans-Pacific Access
By BARBARA ADAM
February 22, 2006
1
2
3
CANBERRA, Australia -- The Australian government rejected Singapore Airlines'
longstanding request for access to the lucrative Australia-U.S. route, protecting its
national carrier.
"We could see little or no benefits to Australia of opening up the trans-Pacific route at
this time," Transport Minister Warren Truss told a news conference, adding, "If access is
negotiated in the future it will be limited and phased. We certainly wouldn't expect
Singapore Airlines to operate on the route for some years."
Singapore Airlines has been seeking access to Qantas Airways' most-profitable route,
between Australia's east coast and the U.S. West Coast, for a decade.
While rejecting Singapore Airlines' access application, Mr. Truss recommended
that Qantas and Singapore Airlines take a fresh look at the "strategic advantage" of
merging, an idea both airlines have publicly dismissed. It said in a statement that the
rejection "is a sign that free-trade principles, open-market competition and consumer
choice have again been sacrificed to protect sectional interests.
[The Australian tourism industry and all consumers who pay high fares on the USA
route are, again, the losers from today's decision."]
Singapore Air is majority-owned by Singapore state-owned investment company
Temasek.
Qantas welcomed the news, with Chief Executive Geoff Dixon saying in a statement that
the trans-Pacific route is already "well serviced" by several major carriers and has "a
range of other prospective entrants."
The rejection of Singapore Airlines' proposal had been largely anticipated by the market,
said BT Financial Group portfolio manager Troy Angus. Singapore Airlines' shares rose
to S$14.10 (US$8.63) each, up 10 cents.
Canberra also rejected a bid by Qantas for its current 49% foreign ownership cap to be
lifted. Mr. Truss said Qantas must remain majority Australian-owned to meet bilateral
air-services agreements with trading partners such as the U.S. and Japan.
Current air-rights agreements allow Australian, U.S., German, Italian and Indian airlines
to fly the trans-Pacific route, although Qantas's 75% market share on the Sydney-Los
Angeles route is challenged only by UAL Corp.'s United Airlines. Virgin Blue Holdings,
intends to fly to the U.S. by the end of 2007, although it doesn't have the aircraft for longhaul services.
Canberra appeared in favor of granting Singapore Airlines the trans-Pacific rights until
late last year, when Virgin Blue revealed its U.S. plans.
Mr. Truss said Singapore Airlines' model is so similar to Qantas's that the best way to
increase competition and lower fares is to encourage a discount airline such as Virgin
Blue on the route.
--Lyndal McFarland in Sydney contributed to this article.
Source: February 22, 2006, The Wall Street Journal Online.
www.online.wsj.com
In this case the Australian government has chosen to protect its national carrier, and to
sacrifice open market competition and limit consumer choices. By protecting Qantas’
most profitable route, the government may be protecting the near-term future of its
domestic airline (and therefore the jobs of Qantas employees), but the government is
sacrificing the good of the entire Australian tourism industry. By not allowing free
competition along the US/Australia route, the government is limiting the number of
tourism dollars that will flow into Australia, since many would-be tourists cannot afford
the airfare to Australia. For the good of all of Australia, the government must allow free
competition along the US/Australia route.Excellent analysis, but you have done an
“industry study.” Probably you would use an industry study here to figure out many
of the subjective and market structure issues. Such studies also allow conclusion to
be made on the conduct and performance (eg. profitability, market power, tourist
trade) expected in the market which is what we are specifically interested in this
case. They are particularly useful on issues such as market power.
4.
5.
Economic Impact Study: The government’s attempt to limit free competition will impact the
entire Australian tourism industry. The financial and employment impacts should be carefully
examined.
Economic impact analysis tries to find a way to minimize the compliance and
efficiency costs of government intervention- often without respect to the public
benefit that is being achieved. An economic impact analysis generally takes the
form:
1.
A government agency is achieving some intangible, unquantifiable
benefit.
2.
The government failure of the agency is too great
3.
Proposals have to be comopared that minimize particularly the
compliance and efficiency costs of government (though typically not the
administrative cost.
Your project is actually more than this. The original reason that Australia might be
protecting its airline is for national security reasons (public good), economies of
scale (market power-natural monopoly), or dynamic market failure (competition is
ruinous or inefficient).
Externalities
A drift toward protectionism will dent the U.S. economy over the next several years,
while growth in foreign investment will slow, economists say.
Fifty-six percent of the economists polled in the latest WSJ.com forecasting survey -conducted in the aftermath of a flap over foreign management of U.S. ports -- say
protectionism will lead to some slowdown in U.S. growth over the next several years, and
8% predict that the slowdown will be significant.
Nearly half the economists say the pace of growth in foreign investment will slow from
recent years, though some believe the slowdown will be unrelated to protectionism and is
inevitable after a period of sharp growth. Foreign direct investment in the U.S. rose 20%
in 2005 to $128.63 billion.
The ports controversy came at a time of growing concern about protectionism around the
world. It followed the blocked bid by China's Cnooc Ltd. to acquire Unocal Corp. last
year and emerged as European governments angle to prevent high-profile utility deals
within their borders. The fear is that if governments take steps to shield their
countries' businesses, international trade and investment flows could be reduced.
Corporations will find it more difficult to reach new markets.
"Protectionism is unambiguously bad," said David Berson, chief economist at Fannie
Mae. Indeed, the free flow of capital across national borders is conventionally looked
upon by economists as a long-term good, and 69% of those surveyed say foreign
ownership of U.S. assets is positive for the economy in the long run.
Just how severely stricter trade controls could harm the economy isn't clear. Ram
Bhagavatula, managing director of hedge fund Combinatorics Capital, cautions it is "very
difficult" to see the effects of protectionism.
Paul Kasriel, chief economist at the Northern Trust Co., worries [protectionist policies
could lead to stagflation, or slow growth and high unemployment accompanied by
rising prices. He says protectionism would mean that for some goods and services
"we would be forced to purchase from a higher-priced producer … ourselves.]" But
Mr. Kasriel says he doesn't know what degree of protectionism would yield that scenario.
Still, the economists aren't predicting any immediate retrenchment. They have maintained
their forecasts for moderate growth of more than 3% in 2006 and they raised their
forecasts for the first quarter. They now put growth in gross domestic product in the
current period at an annual rate of 4.6%, up from the 4.3% rate that they estimated when
surveyed last month.
About 35% of the economists say a weaker-than-expected housing market is the greatest
downside risk to their GDP forecasts this year, while 18% identify higher-than-expected
interest rates and 16% peg higher-than-expected energy prices as the greatest potential
spoilers. When asked what factor is most likely to surprise them on the positive side -and, thus, make their current forecasts too low -- 29% said lower-than-expected energy
prices. About one-fifth cited stronger spending by consumers and another fifth stronger
business spending.
Costs/Benefits
According to David Berson, chief economist at Fannie Mae protectionism is
unambiguously bad. Unfortunately, in the aftermath of September 11, the U.S. citizens
are still uncomfortable with certain foreign companies operating freely in the U.S., so we
have protectionism. If protectionism will ultimately affect the economy, how much of it
is ok and how much is too much. Is there a real tie between foreign business operations
and U.S. safety? Is there a way to help citizens to understand that while protectionism
may make them feel safer, sooner or later they will pay the price for that safety with their
dollars and jobs, ultimately adding pressure to an already delicate U.S. economy? If the
U.S. continues to use protectionism, policies must be carefully designed to avoid
unnecessary risk to the overall safety of the U.S. and to protect the economy at the same
time. This will not only take some crafty policy writing, but will probably also take some
creative marketing.
Study
Economic Impact Analysis: To measure the effects of protectionism on the economy.
Study must make a determination on whether to regulate and the extent of regulation and
weigh that regulation against the social benefits and costs.Again, this is the wrong study.
Unfortunately the name sounds right, but the methodology does not look at the benefits
of government intervention adequately. It is poorly designed to analyze externalities.
But this is not just a case of externalities as a public bad (i.e. terrorism). That means the
regulatory impact analysis may be necessary to determine the feasibility or desirability of
government intervention. Note how you have to weigh considerations of safety vs.
efficiency. Here’s the structure of the regulatory impact analysis that would help you do
this:
The regulatory impact part approach would have been something like the following:
9.
10.
11.
12.
13.
14.
15.
16.
The size of the danger of the market failure is… specify terrorist threat
A regulatory agency can do such, and such…ie. Provide security, prevent
foreign ownership
The administrative cost of doing such and such is… enormous security
costs suggest cutting problem of foreign ownership up front so that
American firms have American interests for security automatically,
putting less burden on government providing security
The compliance cost of doing such and such is… costs of intervention in
mergers and acquisition is probably relatively small
The size of government failures of this agency are likely to be… (which do
or don’t offset the benfits). Security is always difficult to manage and
rarely achieves adequate prevention. Protectionism, on the other hand, is
highly political/
The efficiency costs to society of the regulatory impacts also includes.
Costs of distortions due to protectionism
The additional benefits of having an administrative agency are…. The
value of Amercian firms providing security rather than the government
are enormous.
Therefore, it is probably a (good?bad?) idea to have the government
intervention in the form of protectionism, in the form of enhanced
security.
Notice how there are two different alternatives- security vs. protectionism- or both
floating around in this. This idea needs to be narrowed, otherwise we could even
justify a cost-effectiveness analysis in choosing between protectionism or security for
handling the terrorist threat. You’ve got a good start on this, but there is a way to
go.