2008 Nobel Prize in Economic Sciences

The Royal Swedish Academy of Sciences recently awarded the 2008 Nobel Prize in Economic Sciences (PDF) to Paul Krugman of Princeton University. Krugman showed how economies of scale can help to explain patterns of trade and the location of productive activity. His research into international trade developed a new trade theory that explained trade patterns that previous theories could not. The model that he developed for international trade also became useful for analyzing economic geography.

Before the publication of Krugman's seminal articles, international trade theory was dominated by the concepts of comparative advantage and factor-proportions. The former was due to the insights of David Ricardo, who emphasized opportunity costs as the basis for the gains from international specialization and exchange. Eli Heckscher and Bertil Ohlin further developed the theory by examining cross-country differences in factors of production as the basis for trade patterns. These traditional theories are good at explaining observed trade patterns between a developed nation and a low-income nation.

However, these traditional trade theories are not able to explain the vast majority of trade flows among developed nations. These trade flows, called intra-industry trade, involve trade within the same industries. Such trade does not conform to the traditional theories because opportunity costs and factor proportions are often similar in the nations that exchange products from the same industry. For example, automakers in the U.S. export cars to Japan, and Japanese automakers export cars to the United States. This can't be explained by the Ricardian concept of comparative advantage.



Krugman was awarded this year's Nobel Prize in economics in part because his models of international trade can explain such intra-industry trade as resulting from monopolistic competition, economies of scale, and consumer preference for product diversity. Krugman's model can be illustrated in a graph like the one above, which examines the relationship between the number of firms, the average cost of production, and product price in monopolistically competitive industry. Specifically, the CC curves represent the relationship between firms' average cost of production and the number of firms in an industry, and the PP curve represents the relationship between product price and the number of firms in an industry.

Recall that in a monopolistically competitive industry, firms produce products (like cars) that may differ in quality and style. As more firms enter a given market, each produces less, and average costs increase; therefore, the CC curves are upward sloping. At the same time, more firms mean more competition, which drives prices down; therefore the PP curve is downward sloping.

Where does trade come in? Well, suppose there are automobile producers in the U.S. and Japan. If there is no trade between the two countries, only a certain number of car types will be supported by the sizes of these two markets. But if the two countries can trade, then firms in both countries can sell to consumers in both countries, because some American consumers will prefer Japanese cars and vice versa. This increase in the size of the market means that the automakers are able to produce more cars at lower average cost by taking advantage of economies of scale. In Krugman's model, this causes the CC curve to shift from CC1 to CC2. Consequently, the market equilibrium moves from A to B, which results in a lower equilibrium product price, P, and a greater number of firms, n, producing for the industry. Consumers also benefit from a wider range of available product varieties .

Another important aspect of Krugman's work that was cited by the Nobel committee is the extension of his model to explain the location of economic activity, work that is credited with developing the field of economic geography. It helps to explain the core-periphery pattern of urbanization and migration seen in much of the world. Krugman also made noteworthy contributions to research on strategic trade policy and currency crises. Several pages summarizing his research are presented in the Nobel Prize committee's scientific background paper (PDF).

Discussion Questions

1. Paul Krugman is, for an academic economist, relatively well-known by the public due to his numerous television appearances, books, and articles in the popular press. Some academic economists have been critical of contributions that are easily accessible to the public. Do you believe that such less-scholarly work by Krugman detracts from or adds to the respect he has gained for the contributions which have earned him the Nobel Prize?

2. In what industries besides automobiles do we observe trade patterns which conform to Krugman's theory?

3. What are some of the drawbacks to globalization? Do you think that globalization has had a negative effect on your life, a positive effect on your life, or has had little impact on you? Explain.

Export Restrictions and the Food Crisis

Rising food prices, particularly prices for grains like rice, wheat, and corn, gave way to a global crisis over the past year. For many Americans, the crisis amounts to paying extra for a side of rice with their chicken masala. For the world's poorest citizens, however, the sharp increase in prices seriously hampers health and well-being.

As Paul Krugman outlined in April, the factors behind rising grain prices include growing demand for meat (the production of which requires grain-based animal feed), growing demand for oil (a key input in the production and transportation of grains), some bad luck with weather, and massive public subsidies for biofuels such as the U.S. government's support for corn-based ethanol.

The crisis posed unusual challenges for middle-income countries, like India, that are also major grain exporters. In such countries, higher prices jeopardize the food security of low-income families even as they substantially boost the incomes of farmers. Faced with this predicament, India, Argentina, Russia, Vietnam, and many other countries chose to curb rising prices at the expense of farmers' incomes, imposing export restrictions on key crops such as soybeans, wheat, and rice.

As expected, the export restrictions reduced the incomes of farmers in the restricting countries. Without access to global markets and foreign buyers, domestic farmers ended up receiving lower prices and selling less than they would have in the absence of the restrictions. The restrictions did provide some relief to domestic consumers who ended up paying less and buying more than they would have in the absence of restrictions.

To see why, consider a graph showing the domestic supply (Sd) and demand (Dd) curves for a wheat exporter. Before the restriction, domestic consumers buy 2 million bushels of wheat per month at the going world price (Pw) of $7 per bushel, but domestic farmers sell 8 million bushels of wheat per month. The difference between domestic consumption and production represents exports to the rest of the world (6 million bushels per month). If the government restricts exports to 2 million bushels per month, the domestic price of wheat falls to $5 per bushel (Pr). After the restriction, domestic farmers sell fewer bushels (6 instead of 8 million) at lower prices and domestic consumers buy more bushels (4 instead of 2 million) at lower prices. Domestic farmers lose and domestic consumers gain.

The export restrictions may have kept food prices down in domestic markets of major grain exporters, but from a global perspective, the restrictions undoubtedly prolonged the food crisis. As major grain exporters restricted the amount of grain leaving their borders, the global supply of grains declined, leading to higher grain prices and reduced availability in the rest of the world.

Discussion Questions

1. Recently, several major food exporters have decided to scale back their export restrictions. How will these decisions impact food consumers and farmers in the countries that are removing the restrictions? How will these decisions impact global food prices and availability?

2. Clearly, biofuel subsidies played a role in destabilizing global food markets. Even with biofuels subsidies, though, we might expect higher food prices to give farmers an incentive to bring more land into production or use existing land more efficiently. How do food export restrictions dampen those incentives?

3. How can countries ensure food security for people who are vulnerable to rising food prices without contributing to the food crisis at the global level?

The Hanger Hang-Up

According to a recent NPR story, dry-cleaning costs increased substantially after the U.S. imposed import tariffs on wire hangers from China—so much so that many dry cleaners are now soliciting customers for unused hangers. The U.S. imposed the tariffs after several American producers made dumping accusations against Chinese producers. Dumping occurs if a Chinese firm sells hangers in the U.S. for significantly less than it sells the same hangers for in China, or for significantly less than it costs to produce the hangers in China. The U.S. International Trade Commission found that Chinese manufacturers were, in fact, dumping hangers in the U.S. market.

Economists tend to be skeptical of trade restrictions based on the anti-dumping argument. In markets for standardized goods (like wire hangers) with relatively free entry and exit, there's no long-term benefit from selling a product at below cost. While legitimate cases of dumping certainly come up, some cases may simply involve domestic firms that want to protect their market position from lower-cost foreign manufacturers. In the case of hangers, the tariffs benefit U.S. manufacturers at the cost of the dry cleaners and consumers who would otherwise benefit from lower-priced Chinese imports.

Milton Magnus III, owner of one of the U.S. manufacturers that filed for the anti-dumping duties, argues that the costs to consumers are negligible—amounting to a penny or two per hanger. "If I pay $12.95 to have my suit cleaned and that hanger cost him a cent and a half more, that's $12.96 and a half. It's not a factor." Magnus's point partly explains why import-competing industries often succeed in their efforts to lobby government for the imposition of trade restrictions: the tariff offers concentrated benefits to a few domestic firms, while the costs of the tariff are spread out among millions of consumers—none of whom see a sharp increase in price. Of course, over millions of hangers, a penny or two per hanger can add up.

Advocates of trade restrictions often argue that protection will save jobs. Since we can observe price and cost increases associated with trade restrictions, we can estimate how much it costs to save each job in a protected industry. According to the NPR story, there are roughly 30,000 dry cleaners in the U.S., and on average, each pays an additional $4,000 per year due to the hanger tariff. This indicates an average annual cost of 30,000 firms x $4,000 per firm = $120 million. According to the U.S. International Trade Commission's report, U.S. employment in wire hanger manufacturing was 564 workers in 2004 and fell to 236 workers by 2006. Let's assume that employment in this sector would have fallen to zero in the absence of the tariff, and that with the tariff, employment will recover to 2004 levels. In other words, assume the tariff "saves" 564 jobs. Dividing the cost of the tariff to U.S. dry cleaners ($120 million year) by the number of jobs saved (564 jobs) indicates that each job saved costs about $212,765 per year. Keep in mind that the typical full-time worker in this sector earns about $30,000 per year. Even if we assume that industry employment doubles, the cost of the tariff is still roughly $120,000 per job.

Discussion Questions

1. Our cost estimates ignore possible job losses in the dry-cleaning industry. How would this impact the overall cost of the trade restrictions? Will dry cleaners organize to oppose the tariff on wire hangers from China?

2. According to the Trade Commission report, China provides tax rebates to firms that export items that use steel (such as wire hangers). As of July 2007, the tax rebate amounted to 5% of the value of exports. How do you think export subsidies or tax rebates should factor into government analysis of trade policies?

3. The story mentions dry cleaners' attempts to reclaim and reuse wire hangers. Are there inadvertent environmental benefits from the tariff? Could the U.S. government encourage dry cleaners and their customers to reuse wire hangers without resorting to tariffs on Chinese manufacturers?

Honduras: Hosed by Sock Tariffs

In 1984, the U.S. government gave Honduras unfettered access to the American sock market. The move was the first of several trade deals that would ultimately unravel Fort Payne, Alabama's status as the sock capital of the world. Fort Payne's sock factories struggled to compete with the likes of Honduras, China, and Pakistan when it came to the labor-intensive step of seaming sock toes. American workers receive approximately 2 cents per seam (at about six seconds per sock, a good hour would bring in $12), but foreign workers sew for half of that. The labor savings add up over millions of socks. The cost disadvantage forced many Fort Payne sock mills to shutdown and lay-off workers.

Keep in mind that many people benefited from U.S. openness to trade in socks and other goods. Americans gained access to a wider variety of less-expensive goods—socks included. American firms and workers in U.S. export industries benefited from access to foreign markets. A cosmopolitan view also acknowledges the gains to firms and workers in developing countries. The Honduran sock industry thrived on access to the American market, generating more jobs and higher wages for workers. Of course, none of this is of much solace to a laid-off sock worker in Fort Payne.

A number of Fort Payne sock mills managed to hang on, but much of the town's industry consists of relatively new ventures, like bridge building and label making, with no relation to hosiery. As a recent two-part story (here and here) from NPR's Adam Davidson illustrates, Fort Payne's dynamic economy absorbed its losses from international trade—creating new, often better-paying jobs for many of the workers initially displaced by globalization. Even as Fort Payne's economy moved on, the political clout of the sock industry remained strong. Alabama congressman Robert Aderholt struck a deal with President Bush in 2005—Aderholt would support the Central American Free Trade Agreement (CAFTA) if the president agreed to re-impose tariffs on socks from Honduras. The president agreed; CAFTA moved one step closer to full implementation; and the administration gave itself a deadline for resurrecting the sock tariff—December 19, 2007. Read Davidson's report to learn more about the potential impact of rolling back free trade with Honduras.

Discussion Questions

1. How did sock tariff removal initially impact Fort Payne? How does the economy in Fort Payne look today? Would you characterize it as a sock dependent town?

2. How will the re-imposition of the sock tariff affect the historically small number of sock mills and sock workers in Fort Payne? How will the tariff affect sock mills and workers in Honduras? How will the removal of duty-free status for Honduras impact other developing countries, such as China, that currently face higher U.S. trade barriers than Honduras?

3. The president acceded to representative Aderholt on sock tariffs for Honduras in order to get a vote for CAFTA--a wide reaching agreement that has the potential to reduce trade barriers among multiple countries. Was the deal worth it?

4. Fort Payne's economy adapted to life with open trade, but not all workers experienced a smooth transition from the sock-based economy. According to Davidson's story, how have workers had to adapt to the new labor market in Fort Payne? What, if anything, is the appropriate role for government in easing the adjustment to globalization in towns like Fort Payne?

5. Think about the local, regional, or national economy. How would life be different today if everyone, everywhere were producing the same stuff that they were 30 years ago?

Should Resale Price Maintenance Be Legal?

If economists generally agree about anything, it is that competitively set prices maximize efficiency and welfare. On the other hand, another central tenet of economics is that efficiency may be achieved by allowing individuals and firms to enter into contracts with one another: for example, Ronald Coase famously showed that problems involving externalities could be solved if all affected parties could negotiate with one another.

However, not all contracts are legal. Most prominently, laws like the Sherman Antitrust Act place strict prohibitions on the kinds of contracts firms can write with one another. For example, airlines cannot agree with one another to keep prices high; that would be illegal collusion. Furthermore, manufacturers cannot require retailers to sell their products at a minimum price—a practice called "resale price maintenance."

The logic behind the banning of resale price maintenance is that the practice raises prices, and therefore decreases consumer welfare. This week, the ban came under attack as a leather-goods manufacturer argued before the Supreme Court that it should be allowed to dictate prices to retail outlets. Justice Antonin Scalia agreed, saying:

...the mere fact that [resale price maintenance] would increase prices doesn't prove anything. If in fact it's giving the consumer a choice of more service at a somewhat higher price, that would enhance consumer welfare, so long as there are competitive products at a lower price.

Recall that consumer surplus is defined by economists as the difference between what a consumer is willing to pay and the price they actually pay. One way of summarizing Justice Scalia's argument is that there are two variables in determining consumer surplus: the price, and the value of the service. If resale price maintenance encourages retail outlets to compete on service, the value to consumers may increase, and may increase more than the increase in price.

The key to this argument is the phrase "so long as there are competitive products at a lower price." In the case of the leather-goods market, it's true that there are lots of producers of leather goods. Therefore, high prices can only be sustained if there is an accompanying increase in quality of service.

Discussion Questions

1. Resale price maintenance agreements would seem to be good for retailers, as they allow them to sell at a price above marginal cost. Yet the plaintiff in this lawsuit was in fact the retailer, Kay's Kloset, who wanted to sell the leather goods made by Leegin Creative Leather Products at a discount. Who do you think benefits more from resale price maintenance agreements, manufacturers or retailers? Why?

2. On his blog, Greg Mankiw reprints the excellent summary from his textbook of the arguments for and against resale price maintenance. One argument for resale price maintenance is that it solves a free-rider problem that would otherwise prevent stores from offering good service:

[A manufacturer] may want its retailers to provide customers a pleasant showroom and a knowledgeable sales force. Yet, without resale price maintenance, some customers would take advantage of one store's service to learn about [a product's] features and then buy the item at a discount retailer that does not provide this service.

Do you think that resale price maintenance solves an important free-rider problem, as Mankiw suggests? Why or why not?

3. Resale price maintenance contracts are just one example of a kind of economic contract that is illegal. Philosophically, one might argue that it is illegal precisely because it limits the kind of contracts that one of the parties entering the contract can sign. For example, a resale price maintenance agreement that fixes the price of a leather jacket at $200 essentially stipulates that the retailer cannot enter into a contract with a buyer at which the jacket is sold for less than $200. Can you think of other contracts that people enter into that inhibit their ability to act freely in the future? Are they useful? Are they illegal? Should they be?

4. Some things are "per se" illegal under the Sherman Act, while for others, the "rule of reason" applies—that is, courts judge how anticompetitive they are on a case-by-case basis. If the leather-goods manufacturer is successful in this petition, resale price maintenance contracts would shift from the former category to the latter. Is that appropriate? How would you apply the "rule of reason" to a resale price maintenance case?

Free Trade and Economists

For over 200 years, economists have advocated free trade. And for over 200 years, economists have come under attack for defending a practice that is accused of benefiting the richest of the rich and hurting the poorest of the poor. When Harvard economist Greg Mankiw wrote that outsourcing would probably be net beneficial for the United States in the long run (Source: Economic Report of the President, 2004), he was greeted with disapproval from both Republicans and Democrats.

And the arguments against free trade are not limited to the political arena. Journalism has also taken a position against free trade. PBS's Frontline has argued that Wal-Mart sells out American jobs by forcing U.S. manufacturers to abandon U.S. factories and set up shop in China in the pursuit of lower prices and higher profits. CNN's Lou Dobbs Tonight portrays free trade as a war against the middle class. The communication gap between economists and non-economists leaves economists fending off critics of free trade from the left and the right.

William Poole, president of the Federal Reserve Bank of St. Louis, offered his thoughts on the communication gap in a 2004 speech to the Trade, Globalization and Outsourcing Conference. Poole argued that people do not see the full benefits of free trade because they do not understand the interactions and connections across multiple markets in the economy. As a result, the public tends to overemphasize the costs of free trade and underemphasize its benefits. He concludes that the media should report trade issues in a fair and balanced manner that requires three sections in every story: who gains, who loses, and what are the net gains to the country.

However, is resorting to the "net gains" argument sufficient to persuade the general public of the benefits of free trade? Perhaps not. Even if net gains are positive, the benefits of free trade are generally dispersed among the population as whole, while the costs of free trade are concentrated among the few. When news reporters want to find the drawbacks of free trade, they know exactly where to go and whom to interview. Empty car factories in Detroit, Michigan and disgruntled workers in Circleville, Ohio leave lasting impressions on the typical voter. The benefits of free trade come in as lower prices at the store. At first glance, $50 off the price of a TV hardly seems worth firing 5,000 TV-factory workers. However, policy should be made on the basis of aggregate cost-benefit analysis rather than the welfare of a few. Suppose those 5,000 workers each lose $50,000 in annual income due to the outsourcing of TV manufacturing jobs to China; and suppose that 20 million U.S. consumers buy TVs each year.

Net Benefit to Trade = ($50 x 20,000,000) - ($50,000 x 5,000)
Net Benefit to Trade = $750,000,000 per year

Critics would emphasize that a worker who loses her job to outsourcing loses "$50,000 per year," while the average consumer only gains by "$50 per TV." But remember that in aggregate terms, the cost savings greatly outweigh the wages lost. Hence, free trade benefits America more than it hurts. And in the long run, those 5,000 workers would be reemployed in more profitable industries. However, the transition from a TV-factory job to another industry is a difficult one that will require time and hard work. The federal government offers trade adjustment assistance to workers in need of new skills. Economists could probably earn more "morality points" by advocating a more generous trade assistance program.

Discussion Questions

1. Critics of free trade often point to the disparity in wages between the U.S. and China. Some go so far as to say that outsourcing exploits foreign workers. If U.S. firms did not have factories in China, would Chinese workers be better or worse off?

2. Economic prosperity is often correlated with pro-Western ideology. Why would the U.S. have an interest in signing a free-trade pact with Peru?

3. Some people obviously benefit more from free trade than others. How can winners from trade compensate the losers? What role should the government play?

Organic, Fair-Trade, and Local Foods

According to the Associated Food and Petroleum Dealers, a traditional Thanksgiving dinner for 10 can cost as little as $36.70, or $3.67 per person. For some UC Berkeley students, celebrating Thanksgiving means paying a lot more--but buying food that is sustainable, organic, local, and ethical (SOLE).

The Berkeley food revolution seems to be catching on in the commercial world as well. Like the SOLE students, a large group of consumers prefer to buy organic, believing that in doing so they are protecting the environment, helping poor farmers, combating global warming, and leading healthier lifestyles. Especially to high-income consumers, these benefits make it worth paying an extra dollar or two for lunch or dinner. The stellar growth of Whole Foods and Trader Joe's, two high-end supermarkets that sell eco-friendly produce, has forced grocery mammoths like Safeway to introduce their own lines of organic foods. However, as The Economist reports, buying organic, fair-trade, and local foods might not accomplish the intended goals.

At first glance, organic foods seem to be net beneficial to the consumer diet and the environment. After all, humans have been eating organic food for most of history, since before the industrialization of food. However, The Economist argues that the health benefits of organic foods as opposed to genetically modified foods are unsubstantiated; that the production of organic foods is massively inefficient; that paying "fair" prices to poor farmers effectively subsidizes their bad agricultural choices; and that exclusively buying locally grown food sacrifices the gains from trade. In general, the article argues, the benefits of eating organic are exaggerated, and the costs are understated.

Discussion Questions

1. What actions does the article recommend to consumers who want to reduce the effects of global warming?

2. Economists generally agree that "real" free trade is a tide that raises all boats. Explain how the United States and the European Union have promoted protectionism in their agricultural sectors. If the U.S. and the EU were to stop subsidizing their own farming industries, how would world agriculture change?

3. Suppose you wanted to compare the costs and benefits of organic versus conventional agriculture. How would you go about doing that?

Why Don't We Outsource More Radiology to India?

David Leonhardt's latest New York Times column takes a sober look at the mild hysteria over the alleged outsourcing of radiology work to India. Radiologists diagnose diseases and ailments by reading x-rays and scans. A few years ago, the notion of Indians doing work traditionally reserved for American radiologists caught the attention of protectionists and free traders alike. Lou Dobbs expressed his typical indignation over the prospect of Indian radiologists stealing the jobs of their American counterparts, while George Will applauded the outsourcing of radiology as an avenue toward affordable health care. Dobbs and the protectionist camp saw unemployed American radiologists, while Will and the free trade camp saw less expensive diagnoses and lower medical bills.

There's just one problem with the ruckus over radiology outsourcing--virtually no one does outsourced radiology work in India. According to economist Frank Levy of MIT, you can use one hand to count the number of Indian radiologists reading American x-rays and scans. To borrow a sound bite from Dobbs, hospitals aren't exactly "exporting America" on the radiology front. It's also unlikely that George Will's medical bills are going down any time soon--the labor cost savings from all of three Indian radiologists won't add up to much.

1. The mystery is why more radiology work isn't outsourced. As Leonhardt points out, the radiology outsourcing myth picked up steam because the work seems so ripe for offshoring. According to the column, what does radiology have in common with other industries that are outsourcing jobs?

2. If radiology outsourcing makes so much sense, why aren't more hospitals doing it? What trade barriers or occupational licensing restrictions protect American radiologists from competition with their equally talented foreign counterparts?

3. Outsourcing destroys some jobs but may create others. Consider three types of jobs in the health care industry: surgeons, nurses, and radiologists. Why aren't nursing positions outsourced? If radiology outsourcing actually occurred on a broader scale, what would happen to the demand for American radiologists? Might outsourcing more radiology work to qualified doctors in India actually lead to health care industry growth in the United States (think about George Will's claim)? How might more radiology outsourcing affect the demand for nurses and surgeons in the United States?

Topics: Outsourcing, Globalization, Trade, Labor markets

Globalization Threatening Your Job?

Robert Shiller has an insurance policy for you.

Free trade creates both winners and losers. In terms of jobs, the winners outnumber the losers--free trade creates many more jobs than it destroys. In principle, the winners could completely compensate the losers and still be better off than they were without trade. In practice, we don't see workers in booming export industries going around compensating the unlucky workers displaced by globalization. If global competition overwhelms a domestic industry, workers may find themselves out of work by no fault of their own. As globalization renders their skills obsolete, displaced workers face dimmer prospects for reemployment at former pay rates. For open economies, a tough question arises: Can society reap the ample economic rewards from free trade and minimize the distress of worker displacement in sectors that fail to keep pace with global competitors?

In a recent Project Syndicate column Yale economist Robert Shiller discusses a couple of options for reducing the growing pains of globalization: wage insurance and livelihood insurance.

1. Suppose a worker loses her job in an industry adversely affected by globalization. She accepts a new job, albeit one at a significantly lower wage since the skills she obtained in her former job are no longer as useful. Specifically, she now earns $10 per hour rather than $16. Would government-provided wage insurance cover the entire $6 difference?

2. What type of worker receives wage insurance in the United States? What's the annual benefit cap in the United States?

3. Many jobs offer significant on-the-job training. Starting pay is low in such jobs, but as workers obtain more and more skill on the job, they can expect to command higher wages in the future. Does wage insurance provide a stronger incentive to retrain compared to traditional government vocational training programs? In what way might wage insurance actually discourage people from accepting demanding work that would provide retraining?

Wage insurance is publicly provided. The United States already faces a big social insurance crisis --as baby boomers retire, tax revenues will become insufficient to fund Social Security and Medicare payments to the elderly. In such an environment, earmarking additional tax dollars for another publicly provided insurance program seems unlikely. Shiller argues that livelihood insurance provides a more promising solution because it relies on private markets rather than public coffers.

Under livelihood insurance, workers, insurance companies, and government keep track of occupational income indexes. A worker buys an insurance policy that promises to pay out if the average income in her occupation declines. Workers hold (buy) the policies, insurance companies issue (sell) the policies, and the government simply enforces contracts. The further an occupational income index declines, the more the policy pays out, regardless of the policyholder's employment status. If a worker loses her job in an occupation where average income is rising, the policy pays nothing. Livelihood insurance insures against a decrease in the average income of an occupation, not unemployment.

4. If global forces increase the likelihood that an occupation's average income will decline, the risk associated with the occupation rises, and the price of a policy covering the occupation rises. What does a relatively high-priced policy tell workers about job prospects in the occupation represented by the policy? What signal does a low-priced policy send to workers?

5. If Shiller is right and livelihood insurance can provide mutual benefits for workers and insurance companies, why hasn't the private market seized the opportunity yet?

6. Globalization often puts the jobs of low-income workers in jeopardy. Will workers with especially at-risk jobs be able to afford the livelihood insurance that would protect them against occupational obsolescence?

Topics: Labor markets and unemployment, Free trade, Globalization, Incentives and behavior