George Stigler: Information is Power

It is July 4th weekend coming up. Woohoo! Some of you will be traveling and doing some mini vacations somewhere. I don’t know about my plans for the 4th just yet, but I know that I am going to try and head out somewhere. As long as I escape the nation’s capital on the nation’s birthday, I’m game. One of the largest costs for any getaway is lodging, and hotels are really darn expensive! I also have to have a budget for my beer, my bathing suit, and some sunscreen since I will roast in the sun. Of course, I can’t leave without stopping by the local barbershop for a fresh cut. All of this is adding up to a lot of costs for a simple summer trip. So there has to be an alternative right?

Lucky for me, home sharing platforms like Airbnb and Homeaway are available, where I can rent out an entire home or apartment for a fraction of the cost of a hotel. Not only that, but I get a home experience as opposed to the hotel life. I’m only needing a pad to get some zs anyway.

These home sharing platforms have been under fire lately, though. They are facing stiff regulations already in major markets like New York, Santa Monica, and New Orleans. In Washington D.C., a new battle is brewing over how to regulate home sharing. But, why? What’s more is why do we have regulations at all?

George Stigler, a masterful economist took a stab at answering that question and his insights have left a lasting impact on how we view this question to this day.

Businesses have so many different things that they have to take into consideration! Photo take from Sageworks.

The Winner

George Stigler won the Nobel prize in economics in 1982 for “for his seminal studies of industrial structures, functioning of markets and causes and effects of public regulation.”

Initially, he looked at monopolies in the movie industry by looking at block booking of movies. Block booking is where a studio would sell a bundle of films to a theater but the theater could not pick and choose among the movies in the package. Theaters would be forced to take on films that were probably not all that good along with the hits, supposedly paying higher prices. This led the Supreme Court to intervene and end this practice on the grounds that the movie companies were compounding a monopoly by using the popularity of the winning movies to compel exhibitors to purchase the losers. Stigler thought otherwise.

So, he wrote a paper displaying how a theatre would not be forced into a situation where they were paying a higher price. Theaters would not purchase these bundles unless they thought the best movie would bring in enough profit to account for the shitty movies that were in the bundle.

Another topic that Stigler popularized was “information economics” and how it pertains to monopolies and cartels. To Stigler, “information” has a critical role in how markets work. He theorized on how information, or the lack thereof, can create problems for firms that are trying to collude (or compete) when pricing out their goods and services. They do not know whether their competitors are secretly undercutting them. However, that uncertainty could be reduced by spending resources to gather more information. By applying some of these theoretical insights, he could show that collusion is virtually impossible the more firms are in a market. His preliminary dive into information economics paved the way for future Nobel laureates to make some substantial contributions in this arena.

Littlefinger has been able to navigate his way through the political climate of HBO’s Game Of Thrones because of his ability to acquire information.

Stigler Was A Stickler

He wrote a lot about the role of the regulator and the origins of regulations. He believed that regulations were brought on, not by the government, but by the industries themselves. Stigler called this “capture theory”. Capture theory was a fear that the producers in an industry would “capture” the regulating agency, using regulation as a tool to keep their competitors out. This theory and skepticism of regulators put Stigler at odds with the mainstream economists of his time.

Stigler argued that economists needed to study the effects of regulation rather than assume them. He criticized the great economists of the past who had spoken out for and against government regulation without ever trying to study its effects. In trying to promote this kind of discussion, he held a talk with Paul Samuelson to discuss the role of the state in the economic life of the nation.

Economist George Stigler, photo taken from the University of Chicago.

When Stigler challenged economists, they rose to the challenge. Economists, using powerful tools of empirical analysis, have found that government regulation of industries harms consumers, often giving monopoly power to producers.

To illustrate, let’s look at the barbershop I want to hit before going on my vacation. Barbers are partially regulated by mandating them to get a license. The story of occupational licensing has two sides, though. On one side, it can be argued that the purpose of the license is to be able to signal who is qualified to cut my hair. Another argument could be easily made that it is a method to restrict competition, forcing people to spend an inordinate amount of time and money to get permission to enter a field. Think about how crazy this sounds: In Florida, you need 1200 hours of training and 230 bucks to get a barber license. In the same state, it only takes 250 hours of training and 100 bucks to become an emergency medical technician. This is a case scenario where you can see how regulation by licensing can end up actually hurting people.

In a day and age where search costs are low and reputation effects are a huge factor in how people consume goods, licensing does very little to “protect the consumer” or signal quality. Using occupational licensing in fields such as locksmiths, hair braiding, and animal control officers, is rather unnecessary. Illinois, by the way, requires each of these occupations to have a license.

Perhaps the biggest impact was that he forced people both in the profession of economics as well as in the public service arena to think about the costs and benefits of regulation. On top of that, he was a great communicator that wrote and spoke in such a way that was down to earth. He was a model economist, capable of explaining his ideas in a way that could be understood by all.

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