Knowledge that Transforms

Multiple innovators can and do come up with the same invention independently. A famous case is the telephone: two hours after Alexander Graham Bell filed a patent application for it, another application for the same invention arrived at the patent office. Many scholars, such as Ilkka Rahnasto (2003) and Hal R. Varian et al. (2004), argue that since Bell’s time, simultaneous innovation has become increasingly common. We feel, and our discussions with industry practitioners confirm, that the simultaneous model of innovation characterizes especially network industries such as consumer electronics, the Internet, software, telecommunications, and payment systems, where standardization limits the possible paths for future technologies and so firms concentrate their R&D activities on the same fields. We suggest that simultaneous or independent invention has major implications for intellectual property (IP) policy. In particular, the possibility of simultaneous innovation changes the patenting decision: firms tap patents for a defensive purpose, since the choice is no longer between patenting or resorting to trade secrecy, but between patenting or letting competitors patent. By exploiting the vulnerability of innovative firms to rival innovation, it is possible to design a welfareimproving patent system that induces innovators to patent rather than keep their innovations secret. Taking the simultaneous nature of innovation seriously also changes the way one should think about the relationship between IP and competition policies.

Firms are, for the most part, absent from the modern theory of optimal taxation. Their disappearance dates from the foundational models developed by Peter A. Diamond and James A. Mirrlees (1971) in which firms are simply mechanical vehicles for combining productive inputs into output in cost-minimizing proportions. i In contrast, firms play a central role in all modern tax systems, mostly for a reason eloquently stated by Richard M. Bird (1996): “The key to effective taxation is information, and the key to information in the modern economy is the corporation. ” In most countries, firms remit the majority of tax revenues to the government, either with regard to taxes legally owed by businesses or through withholding of taxes legally owed by employees or other businesses. ii Even when businesses are not required to remit taxes, they are often required to file information reports that can facilitate monitoring of tax liabilities. The lack of a theoretical framework that features firms handcuffs rigorous welfare analysis of a number of important policy issues. One such example is the comparative evaluation of a uniform retail sales tax (RST) versus a value-added tax (VAT). In the standard model, these two taxes—both remitted entirely by businesses—are equivalent consumption

Some international organizations are governed by unanimity rule, others by (simple or qualified) majority rules. Standard voting models, which assume that the decisions made by voting are perfectly enforceable, have a hard time explaining the observed variation in governance mode, and in particular the widespread occurrence of the unanimity system. We present a model whose main departure from standard voting models is that the organization cannot rely on external enforcement mechanisms: each country is sovereign and cannot be forced to comply with the collective decision or, in other words, the voting system must be self-enforcing. The model identifies conditions under which the organization adopts the unanimity rule, and yields rich comparative-statics predictions on the determinants of the mode of governance.

We develop a theory of prosocial behavior that combines heterogeneity in individual altruism and greed with concerns for social reputation or self-respect. Rewards or punishments (whether material or image-related) create doubt about the true motive for which good deeds are performed, and this “overjustification effect” can induce a partial or even net crowding out of prosocial behavior by extrinsic incentives. We also identify the settings that are conducive to multiple social norms and, more generally, those that make individual actions complements or substitutes, which we show depends on whether stigma or honor is (endogenously) the dominant reputational concern. Finally, we analyze the socially optimal level of incentives and how monopolistic or competitive sponsors depart from it. Sponsor competition is shown to potentially reduce social welfare.

Many developed countries have a market for private health insurance that supplements publicly funded, universal coverage. Government regulation of the supplemental market, including the extent to which insurers are permitted to adjust premiums based on individual characteristics such as age, sex, and health status, varies across countries (OECD, 2004). Proponents of rate regulation argue that the resulting crosssubsidization from low to high risks is necessary to maintain the affordability of coverage for high risks. Economic theory, however, raises the concern that the inability to adjust premiums to reflect individual risk could create adverse selection by driving low risks from the market (Michael Rothschild and Joseph Stiglitz, 1976). Little empirical evidence exists to determine the optimal role of rate regulation in private, supplemental insurance markets. Existing studies of the consequences of rating restrictions focus on markets for primary health insurance and find that these laws have had surprisingly little effect on overall rates of coverage (Simon, 2004). In this paper, we study the effects of rate regulation in supplemental health insurance markets by examining the market for individually purchased coverage that supplements Medicare among the elderly in the United States. While the publicly financed Medicare program provides nearly universal coverage of a standard set of benefits for those 65 and over, beneficiaries are exposed to significant financial risk due to the cost sharing associated with covered services and a lack of coverage for some important services. The vast majority of Medicare beneficiaries obtain supplemental coverage through a complex system of publicly and privately funded sources. State Medicaid programs provide publicly financed supplemental coverage for low-income and disabled beneficiaries, and employers provide highly subsidized retiree supplemental health insurance for other beneficiaries, but the remainder rely on highly regulated, private insurance markets. Medicare’s Part C managed care plans are a voluntary, private replacement for traditional Medicare, while “Medigap” coverage is a private policy, bought by about 30 percent of Medicare beneficiaries, that provides only supplemental benefits (Franklin J. Eppig and George S. Chulis, 1997). Our study examines the effects of regulations limiting the information on individual characteristics insurers can use in setting premiums for Medigap coverage.

For more than a decade, an MIT-trained economist has meticulously recorded the results of nearly 75,000 deliveries of bagels and donuts to corporate offices. These bagels and donuts are left in workplaces in the morning, along with a list of prices and a lockbox. Office workers purchase the products on the honor system. Later that day, the uneaten goods and the lock box are collected and the relevant data for each office are recorded in a spreadsheet. These data provide a unique opportunity for understanding the extent to which individuals behave honestly in this setting and the factors that influence the level of honesty. An analysis of the discrepancy between the prices of the goods consumed and the actual payments deposited in the lock box yields a number of insights. First, the base payment rate is quite high. On average, payments represent almost 90 percent of the posted price. In a model of pure self-interest, one would expect very low payment rates, because there would seem to be many opportunities for individuals to take the products with almost no chance of their nonpayment being detected. Moderating the tendency to take the products without paying is the fact that low payment rates will increase the probability the delivery company stops serving the company. Paying for one’s bagels and donuts, viewed in this light, is a public good for other office workers. Thus, one might expect a strong negative relationship between office size and payment rates, which is not present in the data. Rather, the data appear more consistent with a model in which there are internal, nonpecuniary costs associated with stealing the bagels and donuts, i.e., people overwhelmingly pay for the products because it would be wrong not to do so. The observed payment rates are systematically related to a variety of observable factors. For instance, payment rates fall in response to increases in the posted price. This is consistent with the increase in financial costs pushing some marginal consumers to be willing to sustain the moral cost associated with not stealing the goods or paying less than full price. Payment rates are higher when many of the bagels and donuts go uneaten, suggesting that the marginal consumer pays a lower share of the posted price than the inframarginal consumer. Purchasers of donuts appear to be more likely to pay less than the full price. There is a sharp and persistent increase in the payment rate following the September 11 terrorist attacks.

This paper studies an overlapping generations model with stochastic production and incomplete markets to assess whether the introduction of an unfunded social security system leads to a Pareto improvement. When returns to capital and wages are imperfectly correlated, a system that endows retired households with claims to labor income enhances the sharing of aggregate risk between generations. Our quantitative analysis shows that, abstracting from the capital crowding-out effect, the introduction of social security represents a Pareto-improving reform, even when the economy is dynamically efficient. However, the severity of the crowding-out effect in general equilibrium tends to overturn these gains.

We analyze the consequences of control on motivation in an experimental principal-agent game, where the principal can control the agent by implementing a minimum performance requirement before the agent chooses a productive activity. Our results show that control entails hidden costs since most agents reduce their performance as a response to the principal's controlling decision. Overall, the effect of control on the principal's payoff is nonmonotonic. When asked for their emotional perception of control, most agents who react negatively say that they perceive the controlling decision as a signal of distrust and a limitation of their choice autonomy.

In an experiment, players' ability to learn to cooperate in the repeated prisoner's dilemma was substantially diminished when the payoffs were noisy, even though players could monitor one another's past actions perfectly. In contrast, in one-time play against a succession of opponents, noisy payoffs increased cooperation, by slowing the rate at which cooperation decays. These observations are consistent with the robust observation from the psychology literature that partial reinforcement (adding randomness to the link between an action and its consequences while holding expected payoffs constant) slows learning. This effect is magnified in the repeated game: when others are slow to learn to cooperate, the benefits of cooperation are reduced, which further hampers cooperation. These results show that a small change in the payoff environment, which changes the speed of individual learning, can have a large effect on collective behavior. And they show that there may be interesting comparative dynamics that can be derived from careful attention to the fact that at least some economic behavior is learned from experience.

In recent decades, U.S. foreign trade grew much faster than GDP, but there is no consensus why. Notably lacking is an understanding of the role of multinational corporations (MNCs), which mediate over half of world trade. We use Bureau of Economic Analysis data on U.S. MNCs to study the rapid growth of MNC-based trade from 1983 to 1996. Using a model of U.S. MNCs and Canadian affiliates, we decompose this growth by source. Tariff reductions can largely explain increases in arms-length MNC-based trade. But intra-firm trade growth is attributed mostly to “technical change.” We present additional evidence suggesting just-in-time production facilitated intra-firm trade. (JEL F13, F14, F23)