Is Health Care A Place For Free Markets?

Below is an essay (and I use that term loosely, reports with headings do not an essay make) I recently wrote for Public Finance III. I present it here in a largely unedited format.

Apologies for any problems with the tables. I seem to be having some rather embarrassing difficulties coding them properly.

Edit: Looks like the tables work fine, just didn't display nicely in the preview. (Also, fixed an extra line break in Table 2).
Second Edit: Fixed the nbsp in Table 2.
Third Edit: Did the same thing for Table 1.
Fourth Edit: Added labels. Here's hoping that's all that needs updating.

Daniel O'Brien.

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Health care provision is a complex and multifaceted subject with numerous different approaches to its provision. The role of the public and private sectors in financing and delivering health care differs greatly across nations and the impact these have on health outcomes are complicated to measure. Health care ranks in the top three expenditures in both GDP and tax spending in the majority of OECD nations. This government intervention is predicated on the argument that it can provide superior equity and efficiency to private markets.


I -Efficiency of Health Care

Besley and Gouveia state that ‘in an idealised economy, health insurance would be provided competitively. … The markets in which individuals purchased medical care would also be perfectly competitive. The resulting allocation of resources would be efficient’ (Besley and Gouveia, 1994). For perfect competition to be viable an insurance market needs to meet five conditions (Barr, 2004).

The first condition is that the probability of an individual needing treatment must be independent across all individuals. This is a reasonable assumption except during major epidemics. The second condition requires that the probability of an individual needing treatment be less than one. Though this condition is met for the great majority of illnesses, it is not met for significant categories, notably pre-existing chronic diseases and congenital illness. This leads to significant gaps in coverage in the private health care market. The third condition requires that the probability of an individual needing treatment be known or estimable. Though this is generally true, difficulties arise with policies that provide long-term benefits such total permanent disability cover. (Barr, 2004)

More substantial difficulties are found with the fourth and fifth conditions. The fourth requires that there be no significant adverse selection problems. Adverse selection is prevalent within health care insurance. As premiums rise, those who are less likely to need treatment will purchase less insurance. Thus the likelihood of treatment being required within the insured population will increase and the insurance company will be required to make a greater proportion of payouts, this will put further upwards pressure on the premium and lead to further adverse selection problems. This results in significant difficulties in acquiring insurance in high risk groups, notably the elderly population. (Barr, 2004)
The fifth condition requires that there be no significant moral hazard problems. Moral hazard is a major problem within many health care insurance markets and arises in three ways. Individuals with health insurance may be less likely to take precautions with their health. More substantially, some health care is choice-driven, notably pregnancy and doctor-consultations for seemingly minor conditions. This leads to either an increase in the consumption of health care or to gaps in coverage. The most substantial moral hazard issue is the third-party payment problem. This arises as a result of the arrangement of agents within the health care insurance market. Effectively, the primary cost-bearing agent, the insurance company, is divorced from the decision making of the doctor and the patient and thus has little direct impact on the level of consumption. Furthermore, neither the doctor nor the patient face the full social cost of health care and will thus over-consume. In the extreme case, where insurance companies cover all costs, the doctor and patient face zero private costs and will consume all health care that provides a positive private benefit, resulting in serious over-consumption. (Barr, 2004)
This can be further exacerbated where the doctor is paid on a fee-for-service basis and thus will have a positive private benefit for all health care consumption.

The failure to meet these conditions causes the health care market to fail to operate in a perfectly competitive manner and thus there is an inefficient allocation of health care goods. Government intervention, through public financing or delivery, may be useful to provide a more efficient allocation.


II - Equity of Health Care

Barr discusses two concepts of equity within health care. The first is that of horizontal equity, which calls for perfect information and equal power. Both of these are often absent within health care.

Patients face great difficulties in assessing their health care needs. Medical knowledge is very technical. Patients are generally ignorant as to the quantity of health care that they need and the quality that they are receiving. They are ignorant of various treatment options and of likely outcomes. Even previous personal experience in consuming health care is rarely of assistance, as many medical services are only used once in a life-time by any given individual.
This lack of information is exacerbated by the costliness of a mistaken choice, the high likelihood of the irreversibility of medical procedures and the high emotional involvement of the consumer. This can be exacerbated further by the potential for urgency issues (such as following a motor vehicle accident) and for patients to be incapable of making rational decisions (such as if they are unconscious or mentally impaired by their illness).
Unequal power is a result of patients lacking knowledge as described above, though expanded to include their rights in respect to the relevant health care system and their confidence and ability to articulate their legitimate grievances. Barr writes that it is implausible to imagine that this is the state of affairs for all consumers, though in the final analysis the issue is empirical (Barr, 2004).

The second concept is vertical equity - the redistribution of health care from rich to poor. This redistribution has become the norm in modern western economies. There are several reasons why such redistribution may be considered desirable. Firstly, the rich people may benefit directly from the altruism of helping others. Secondly, unhealthy people are likely to be less productive and may in fact foster further illness. In this case, providing health care to the poor may have a direct impact on the consumption level and general well-being of the rich. For example, more workers available will lead to lower wages which lowers costs for firms and thus lowers the price of goods consumed by the rich. Additionally, health care measures such as vaccinations are most effective when substantial portions of the population are treated. The rich gain direct health benefits from the vaccination of the poor and it may thus be in their best interest to provide such health care.


III - Arguments For and Against Government Intervention in Health Care

In markets facing externalities or other substantial failures, government intervention may be able to foster a more efficient outcome. Governments are also the principal mechanism for the redistribution of wealth for equity purposes.

Though many have argued for less government intervention in the health care sector, it is generally agreed that private health care markets suffer from significant failures as discussed above. Thus in most instances, the arguments for and against government intervention in health care markets are actually arguments about whether such intervention induces a more or less efficient outcome. For government intervention to be desirable on an efficiency basis the gains from an increase in efficiency must offset any deadweight loss incurred.

Governments face a myriad of options for intervention. These range from simple regulation, to public financing of private health care, to full public delivery in place of a private market. Simple regulations such as mandating minimum qualifications to become a doctor can help address some, but by no means all, of the incomplete information problems. Alternatively, governments can provide public financing of health care with or without public delivery.

In the case of public financing without delivery, health care services are provided by private firms. There are two general ways in which this financing could be structured. The first is through private finance for ‘easy’ cases in the form of regulated insurance markets, with state financing covering residual (i.e. largely uninsurable) conditions and for those unable to afford basic coverage. Regulations take the form of minimum standards of coverage and compulsory insurance for all citizens.
The second method is state finance. In this the state pays all medical bills, using either a social insurance system or tax revenue. As social insurance systems are not strictly actuarial, they avoid most of the gaps in coverage problems that arise in purely private markets. (Barr, 2004)

Alternatively, the government can both finance and provide health care. Such systems can overcome many of the failures inherent in private markets. Barr argues that public delivery systems such as the UK’s NHS can provide more efficient outcomes. He argues that doctors deciding treatment addresses the problems of consumer ignorance and that the system avoids many gaps in coverage by abandoning the insurance principle and providing tax-financed health care that is free at the point of use. The minimal use of fee for service arrangements limits the third party payment problem. Administrative rationing of health care provides a restriction to the quantity consumed, this helps prevent over-consumption of health care arising from the null cost to the consumer.

The issue of vertical equity is a normative one, that is to say it is values based and depends on the beliefs of individuals. Libertarians often support redistributions for the utility-boosting reasons described above, but believe that this should be on a voluntary basis rather than through enforced taxation. They often believe that the current level of redistribution is larger than the optimal level. Socialists support redistributions for their own sake, arguing that they increase equity and that the current level of redistribution is likely suboptimal.


IV - Role of the Public and Private Sectors in Australian Health Care

Australia’s health care system features a significant portion of both public and private involvement.
The federal, state and territory governments all play a role in the funding and delivery of health care. Medicare, the national health insurance scheme, is administered and funded by the Commonwealth Government. The state and territory governments administer the public hospital system, which is jointly funded by the state/territory and Commonwealth governments.
The private sector is composed of a mix of both not-for-profit and for-profit organisations and accounts for approximately one-third of health expenditure in Australia (Australian Bureau of Statistics, 2007). The private sector plays a strong role in the delivery of health care services, accounting for 55.8% of operating room use in 2004-05 (Australian Bureau of Statistics, 2007). 41.2% of hospitals in Australia are private, accounting for 32.4% of hospital beds (Australian Bureau of Statistics, 2007).


V - Differences between the Australian Approach to Financing and Delivery and the United Kingdom Approach

Within the United Kingdom the private sector plays a significantly smaller role than it does within Australia. Private insurance covers only 11% of the population as compared to approximately one-third within Australia (Ross et al, 1999). There are also fewer co-payments required in the United Kingdom, with payments required only for pharmaceuticals, eyesight tests and up to 80% of dental costs (Ross et al, 1999). Funding is overwhelmingly through general taxation.
Health care delivery within the United Kingdom is also predominantly provided by the government rather than the private sector. All hospital staff are salaried employees of the state, whilst general practitioners are self-employed individuals who contract their services to the state. Though similar conditions exists within Australia for general practitioners, hospital staff, especially doctors, within Australia undertake substantial quantities of private work, often within the hospital system. The Australian system also features a far greater proportion of fee-for-service arrangements than the United Kingdom system does.


VI - Differences between the Australian Approach to Financing and Delivery and the United States Approach

The United States health care system is substantially different from the Australian system. Financing within the United States is predominantly through private means, with 61% of the population in employment-related health cover, underwritten by tax concessions (Ross et al, 1999). The Federal Government finances free basic cover for the elderly and disabled, along with a safety net for the poor. However, there are no assurances of universal coverage and some 14% of the population is not covered by insurance or safety nets. This contrasts strongly with Australia which provides often free cover to all citizens and a number of non-means tested safety nets (alongside stronger safety nets for low income earners).
The majority of health care within the United States is provided by private, for-profit organisations (Ross et al, 1999). Again, this contrasts strongly with Australia where nearly two-thirds of hospital beds are within public hospitals (Australian Bureau of Statistics, 2007).


VII - Comparisons between the Australian, United Kingdom, and United States Health Care System Costs

Health care costs can vary quite significantly across countries. There are a number of ways to measure health care expenditure. Traditional methods include measuring the proportion of GDP spent on health care and comparing per capita PPP.
There are some potential difficulties in using the proportion of GDP as a measure of health care expenditure. In recessions when much of the economy is contracting, health care expenditure stays relatively constant (even more so in countries with a large public health sector). Thus the proportion of GDP spent on health care will rise in a recession and decrease in an expansion without underlying changes in actual health expenditure (Ross et al, 1999).
Per capita purchasing power parity avoids this difficulty. However, it does introduce problems concerning the use of a given basket of health care goods. This becomes particularly problematic when one considers that many basic health care goods differ substantially across nations. An example is the prevalent use of aspirin in the United States as compared with the use of paracetamol in Australia. Though direct costs of these two drugs are comparable, this may not be the case with preferred surgical procedures or powerful new drugs, especially chemotherapeutics. Furthermore, PPP is not adjustable for inflation and can thus not be compared across time (Ross et al, 1999)
Therefore, it is best to look at the data in conjunction with one another. That is, to compare both PPP and the proportion of GDP, along with other measures as available. Table 1 shows the expenditures in both PPP and the proportion of GDP for Australia, the United Kingdom, and the United States. It is quite evident that the United States spends far more per capita than either Australia or the United Kingdom. Indeed, it spends nearly twice the United Kingdom as a proportion of GDP and more than double in terms of PPP.

Table 1 – 2004 Health Expenditures in Australia, the UK, and the US
	GDP (2004)	Per capita US$ PPP
Australia	9.5	3128
United Kingdom	8.1	2560
United States	15.2	6037

All data are 2004 figures
Source: OECD, 2007


It can also be important to look at differences in public expenditure across countries. The most frequently used method is to describe public expenditure as a proportion of total health expenditure. In 2004, the United Kingdom’s public expenditure was 86.3% of total expenditure, nearly twice that of the United States’ 44.7% and one-third higher than Australia’s 67.5% (OECD, 2007). It is interesting to note that across these three nations there seems to be a negative association between total health care expenditure and public health expenditure. This is perhaps empirical evidence that a public health system is more adept at avoiding the problems that contribute to the over-consumption of health care than a private system is.


VIII - Comparisons between the Australian, United Kingdom, and United States Health Care System Outcomes

It is not sufficient to compare health care costs across nations. If higher costs are associated with superior health care outcomes system may be preferable to the low-cost, low-outcome system. As such it is important to consider the health outcomes across the three nations. Unfortunately, health is a difficult concept to precisely define and there are thus extreme difficulties in measuring outcomes. Commonly used health indicators include infant mortality and life expectancy at varying ages. There may be some discrepancies in these data caused by changes in health care. For example, there is some evidence that infant mortality can rise slightly in the presence of greater reproductive services. This is because the availability of fertility treatment to women who previously could not become pregnant results in a greater number of high risk pregnancies. There are also associations between greater health and general welfare and delaying the age of first pregnancy. As age of first pregnancy is a significant factor in the risk of pregnancy, this too can have a negative impact on infant mortality. However, it is likely that these impacts are relatively minor and, as such, infant mortality and life expectancy are the most widely used health indicators.
Table 2 shows three health indicators for Australia, the United Kingdom, and the United States. Australia has the best results for each of the health indicators. The United States’ infant mortality is significantly high – only two OECD nations had higher rates (Mexico 19.7 and Turkey 24.6) (OECD, 2007). It should be noted that all three nations have infant mortality rates that are higher than the OECD average.

It is interesting to note that the country with the more mixed public-private system produces the best results of the three countries examined. However, the data set is far too small to provide any conclusive results.

Table 2 – 2004 Health Indicators for Australia, the United Kingdom, and the United States
	Infant Mortality	Life Expectancy at Birth	Life Expectancy at Age 65
			Female	Male
Australia	4.7	80.6	21.1	17.8
United Kingdom	5.0	78.9	19.1*	16.1*
United States	6.8	77.8	20.0	17.1

All data are 2004 figures except * - 2002 data
Source: OECD, 2007

IX - Conclusion

Government intervention in health care provision is an important and difficult topic. The clear failure of private markets to efficiently allocate health care services, and the superior health indicators in countries with stronger public involvement in health care clearly indicate the desirability of government intervention. The precise method of intervention is a far more contentious issue and it is strongly debateable which precise mix of public and private financing and delivery is optimal. Indeed, it is likely that there are a range of optimal solutions, varying with preferences, circumstances, and other factors.

References

Australian Bureau of Statistics 2007, ‘Health care delivery and financing’, Year Book Australia, no. 89, Cat. No. 3010, pp. 277-294.

Barr, Nicholas 2004, ‘Health and health care’, Economics of the Welfare State, 4th edition, Oxford University Press, Oxford.

Besley, Timothy, and Gouveia, Miguel 1994, ‘Alternative Systems of health care and provision’, Economic Policy, vol. 9, no. 19, pp 199-258.

OECD 2007, OECD Health Data 2007 – Frequently Requested Data, http://www.oecd.org/dataoecd/46/36/38979632.xls Last accessed: 01/10/2007

Ross, Bill, Nixon, Jen, Snasdell-Taylor, Jamie, and Delaney, Keir 1999, ‘International approaches to funding health care’ Occasional Papers: Health Financing Series, no. 2, Commonwealth Department of Health and Aged Care.

Could Australian Politics Be A Little Biased?

John over at Australian Politics - a blog, posted about today's announcement of the new Australian Hospital Nursing Schools scheme by Prime Minister John Howard and Health Minister Tony Abbott.

I will avoid discussion of John's take on the nursing schools, though I will say that I am, in theory at least, a supporter of the Government's proposal. I was a partner (admittedly the junior partner) in a community nursing business for two years and involved in the administration for well over a year prior to that. Though not a nurse myself, I was privilege to a lot of conversations over this time about what makes a good nurse and how nurses should be trained.
Every nurse who worked for us bar one was trained before the current university system was in place. And every nurse that I remember speaking to, both within and outside the business, thought that the in-hospital training system was far superior to the current university system. Certainly, my experience was that the hospital-trained nurses were superior in skill. It is important to note that that may be a function of their (often far) greater experience after training (due to an obvious age discrepancy). I must admit to a strong level of bias and little objective consideration of the topic and will thus avoid any formal consideration of the topic.

The focus of this post, however, is not the scheme announced by Mr Howard and Mr Abbott today. It is, what I believe to be, the shocking misrepresentation of Mr Howard.

Read the press release.
Now, does Mr Howard sound like he is taking all the credit for himself, or does he sound like he attributes it to "the Government" which he routinely refers to as "we". Is 'we' a term commonly used to describe a single person? Or, is it a term commonly used to refer to a collection of people, such as, perhaps, a team?

How do your views correlate with John's take?

Traditionally I have enjoyed John's well-reasoned, well-written, and justly balanced posts. Today I was disappointed. I fail to see how Mr Howard "pointedly talks about 'I'". I think that the copious use of 'we' is evidence that he was speaking of a team. Mr Howard does make significant usage of the 'I', when discussing personal anecdotal evidence to support the policy, when discussing his personal opinion of the policy. Does membership of a team preclude a personal opinion? Why would we expect our elected representatives not to hold personal opinions? Indeed, should we not both expect and demand that they not only hold personal opinions, but cleave strongly to their personal principles and beliefs?

It is ludicrous to think that someone who obtained Mr Howard's position would be anything but a team-player. Furthermore, I must ask, why is it that Mr Howard must talk of the 'team'? Why should he be compelled to suddenly, specifically and overtly, discuss the team that has been in existence for, supposedly, his entire prime ministership?

In a second post, John has further attacked Mr Howard along these lines. I have yet to have the chance to read the other sources John has drawn from - partly because he has neglected to provide any link to them and I am thus trawling for them on my lonesome... I will update this post as I gain the opportunity to read through these speeches.

For those who would choose now to label me a Liberal and Howard-supporter: I intend to vote for Kate Ellis in the House of Representatives at the forthcoming election. Ms Ellis is the current Labor Member for Adelaide and a thoroughly decent and capable person (whom I was fortunate enough to meet at the Youth Parliament Mentorship Dinner back in July). Her Liberal opponent is Tracy Marsh, whose basic platform seems to be "I am a good mother and I'll do what Mr Howard tells me to" - not exactly a strong position. At this stage I intend to preference the Liberals over the ALP in the Upper House.

As previous posts demonstrate I have a tendency to support the Liberal's positions more frequently than I support the ALP. Thus, I must wonder if it is merely my personal prejudices and biases that form my opinion that Mr Howard did in fact refer to the team. I must ask, would someone without biases, or with biases against Mr Howard see it otherwise?

Please, leave a comment and let me know how you feel the nursing press release reads. Do you think that Mr Howard was explicitly referring to himself? If not, do you think it is fair to assume that he was implicitly doing so (and, effectively, using the royal 'we')? If you do think he was implicitly doing so, why do you think so?

Is this a blow to the global warming theory?

Steve McIntyre recently discovered that NASA's data for temperature trends in the US has a rather serious error - caused by a y2k bug of all things.

Unfortunately, http://www.climateaudit.org/, a website operated by McIntyre is currently offline (I imagine it's getting pummelled after the recent mentions in the blogosphere). Thus I cannot really comment on the data itself.

Several other blogs have picked up the new findings and run with them. Tim Blair, Watts Up With That?, and Michael Asher at DailyTech have all commented on the new data, which has caused some notable changes in the top ten hottest years on record (in the US).

The most obvious change is that 1998 has now been bumped down a rank by 1934. The three sites go on to make a point of the fact that five of the top ten years now date from before World War II.

That certainly sounds like a compelling piece of data. Except that the old top ten list saw four pre-WWII years, so really the change is only minimal. I haven't yet had the opportunity to find out how much the overall order of, say, the top 100 years has changed. There is some talk at Watts Up With That? about overall changes in the order.

All three sites note that this only makes a change in US temperature records, not world-wide temperature records. They then go on to attack global warming theory, suggesting that this change in the data invalidates the theory (it should be noted that Asher only attacks through implication and I could well be misinterpreting him).

Now, I am somewhat dubious about anthropogenic global warming. The more I read, the more I am uncertain as to the credibility of the IPCC, and the more I question the hype and fanatacism that seems to follow the doomsday theories of global warming. I have previously questioned the validity of the term 'consensus' and I still hold to that position.

However, I must ask, how does a change in one set of US temperature data make any sort of appreciable impact on global warming theories?

If the error were in global records then I could perhaps see the reasoning.
If these records were the only source of temperature data that were used I could perhaps see the reasoning.
If the attack included any sort of mention as to how widespread the use of these data are then I could perhaps see the reasoning.

As it is, none of these seem to be the case (I freely admit I have done only a cursory search on the topic of how frequently various temperature records are used in scientific research). I must ask why these particular opponents of global warming are clutching at straws when there are far more legitimate targets around.

Between attacks like this, A Western Heart's assault on the British Met Office, and the never-ending supply of comments about cold or wet days, months, or seasons disproving global warming it comes as little wonder to me that the proponents of global warming have been so disparaged as to instantly deride anyone who dares voice dissent from the 'scientific consensus'.

I do wonder, though, when did 'sceptic' become a dirty word? Is it not true that all scientists are meant to be sceptics? To critically and thoroughly question all findings and beliefs?

I would have thought that even the prevailing 'laws' of the day should be treated with some scepticism. Whilst it is right to treat them as a solid and likely approximation of reality, is it not also right to consider the possibility that they are incomplete or mistaken. Even Newton's Laws didn't prove infalliable.


On the topic of 'scientific consensus', here is a quote from Michael Crichton, which I feel nicely sums up my opinion: "Consensus is the business of politics. Science, on the contrary, requires only one investigator who happens to be right, which means that he or she has results that are verifiable by reference to the real world. In science consensus is irrelevant. What is relevant is reproducible results. The greatest scientists in history are great precisely because they broke with the consensus."

Howard Sensible? Rann Scary?

Prime Minister John Howard released a YouTube video today to announce the Defence Gap Year program. The video itself is fairly bland and boring - Mr. Howard would do well to avail himself of a better speech writer and some public speaking ability. The idea behind it seems fairly sound to me though. I would have given some serious consideration to spending a year between high school and medical school in the army. As it was, I seriously considered joining ADFA through their students program. The only thing that stopped me was that I wasn't sure that I wanted to commit myself to something for the ten or so years. A year in between high school and uni would have been a brilliant way to find out whether I wanted to joing the defence force or not.

That said, economics has proven itself significantly superior to medicine, so maybe I should be grateful I didn't enlist.

The topic has also been mentioned at Blogocracy, and discussed as a process story at Larvatus Prodeo.

In unrelated news, South Australian Premier Mike Rann and Attorney-General Michael Atkinson have announced that they are "preparing to overturn the ancient legal principle of ‘double jeopardy' ".

Later on in the announcement they talk about when you will be able to retry cases.

* When there is fresh and compelling evidence - I'm all for this one. It makes sense. I would like to see how they define 'fresh' and 'compelling' though. Especially 'compelling'.
* When the acquittal is tainted - now, this one scares me quite a lot. 'Tainted'? What exactly do they mean by 'tainted'? Part of me fears that this is merely code for 'whenever the government so desires'.

There are also some other relatively minor changes. I haven't yet had the time to look around for a copy of the bill, but will hopefully post some comments after I have a thorough read of the legislation.

There doesn't seem to be any sort of comment from the South Australian law community yet (at least not that I could find in the ten minutes I spent googling the topic), but there are some comments on similar law reforms in New South Wales and Queensland.

Daniel O'Brien.

Minor Updates

Hey All,

As one or two of you have previously noted, my blogroll has been woefully incomplete in the past. That particular oversight has now been, mostly, rectified. Take a look at the new Political, General, and Friend's Blogrolls.

I must make special mention of a few of the blogs.

Freakonomics is an amazing blog by one of the preeminent economists of our time. Jointly maintained by Steven D. Levitt (a professor of economics at the University of Chicago) and Stephen J. Dubner (a professional journalist), the blog never ceases to provide new, interesting, and topical insight into the world around us. Most importantly, Levitt has a masterful understanding of the difference between correlation and causation. I would give my left arm to be half as good as he is, and I'd give my right arm to write as well as Dubner.

John Quiggin has written some pieces that I find truly impressive. The professionalism of his arguments is difficult to deny. It doesn't hurt that he's an economist and seems to take a similar stance to me on many things.

Andrew Norton is sometimes a bit hit-and-miss. Sometimes thoroughly mediocre (though this could be a function of his choice of topic and my interest level) and frequently insightful, eye-opening, and brilliant. Read it.

If anyone knows of any blogs that I haven't listed that I should be reading, drop a comment and let me know.

Daniel.

How Can I Fulfil My Civic Duty?

I have spent the last few years flirting with various political parties. The Democrats, the ALP, the Liberals, the Greens once or twice, and on one particularly unfortunate night the Libertarian Party.

I’ve always had a soft spot for the Democrats, a product of growing up in a left-of-centre household in the nineties I imagine. Amazingly I even agreed with most of their policies. At least until a couple of years ago when it seemed that they suddenly took a hard left turn and lost all semblance of sanity. I have since discovered that they shifted only slightly to the left (from where I fell in love with them at any rate), whilst I had leapt quite some way to the right of my starting point.

Traditionally I have ranged from solidly left to left-of-centre, but over the past five or so years I have slowly drifted to the right. At least it seems that way. A view strengthened by the attitudes of my friends and the fact that I am about as right-wing as most of them could tolerate. The drift has been especially noticeable over the last 18 months. A fact I contribute to my work towards my soul-consuming economics degree.

Where I started on the left puts me somewhere in the less-centrist aspects of the ALP, a position I always supported even though they have often left a bad taste in my mouth. My grandfather was a brickie. I grew up in the outer-Northern suburbs of Adelaide – mostly in Elizabeth and Salisbury. Until recently I have always lived in a very safe Labor seat for both federal and state electorates. My grandparents voted Labor. My parents voted Labor – except on those few occasions when they voted Democrats. My siblings and the vast majority of my friends tend to view the Liberal Party as evil, immoral, and heartless.

Yet, despite this strong history and family support and my (past) general agreement with most of the Labor party’s policies, there has always been something that held me back from joining. I could never quite get behind them. This confused me a little, but I put it down partly to their strong love of affirmative action and their hatred of all-things nuclear. Mostly, I marked it off as a dislike of the way they worked in federal opposition – after all if we were just looking at a state level I was quite happy to support Rann. Though I must confess to supporting Olsen in principal at least (it should be noted that I was not nearly as politically aware during the Olsen government as I have been in recent years).

More recently I have worked out why the ALP always leaves a bad taste in my mouth. I can’t stand the unions. This has become increasingly evident to me as I continue my studies and as I lock horns with various left-activists around the campus grounds. It’s not that I am against the underemployed, the poor, or the underpaid. I have a strong desire to help all of these groups. I’ve belonged to each of those groups at one time or another. The unions do not, in my mind, support the labour movement. They support the labour movement as it stood in the 1950s. I have my doubts about the WorkChoices legislation. It goes too far. But it is a superior system to what we have now, and a far superior system to what many unionists seem to crave. Is it any surprise that union membership is so low? I want to work part-time, I want to work flexi-time. I don’t want to work full-time. I’d rather work nights than days. I’d rather negotiate my own contracts without any award underpinning. I’d really rather not have my union stand up to the government and say they represent my moral views on abortion, euthanasia, same-sex marriage or any other moral position (*cough* SDA *cough*). I'd rather have a higher base wage than penalty rates. Unions have an important part to play in society. Workers have as much need and right to a special interest group as does any other subset of society. Collective bargaining is not an inherently evil thing.

No, my problem with the unions stems from three things. My first concern is their tendency to thuggish or militant actions – a methodology that seems ingrained into the culture of some unions. My second concern is that they do not represent the actual workers but instead represent their ideal view of their workers and try to mould industry into a shape that only supports this ideal 1950s view. My third concern is the same concern that I have of (nearly) all special interest groups. They are blind to the bigger picture. They do not care about the unemployed. They do not care about the corporations that employ their members. To my eyes they either do not care about the broader scope of society or the economy, or they have no understanding of the economy.

This is where I would normally explain the price-floor concept and talk about the damage done by excessive minimum wages. Then I’d talk about the fact that even working at minimum wage you are far, far better off than the long-term unemployed, the homeless, and the destitute. Would our efforts not be better focussed on the most disadvantaged aspects of our society rather than those who can already feed themselves?
These are questions and examinations for another time though. The purpose of this post is not to bash the unions I once thought were heroes.

My problem with the Labor party is the same as my problem with any other party that is strongly influenced or controlled by a single set of special interest groups. Special interest groups represent only their specific set of interests, I want my leaders to represent the interests of Australia as a nation. Not just the environment. Not just the religious. Not just the unions. I believe that special interest parties are nearly as bad as, and far more dangerous than, single-issue parties.

As I have come to realise over the past four or five years, I am not a Labor supporter. Nor do I support the Democrats. Family First and One Nation make me gag. The Greens have enjoyed (or suffered as the case may be) my support on only a few rare occasions, and normally they embody everything that I hate about the left. The Liberal party has always been taboo and anathema to me. Never would I consider joining their ranks. I may find myself supporting certain aspects of their policies, but surely this is merely a bizarre coincidence.

That is how I thought for quite some time. I was a closet-Liberal supporter. I wasn’t even willing to admit my support for the mainstay of their policies to myself. I certainly wasn’t about to do it in front of my friends. I have slowly slid to the right over the past five years and I have slowly come to stand in a more Liberal position than I ever would have thought possible. I still rile against some of their social policies. I am most strongly pro-choice, pro-euthanasia, pro-gay rights. Others of their policies are perhaps harsher than I would like to see, but I am not a strong supporter of affirmative action – it has its place and its uses, but it is over-utilised and over-loved by the left and by Australia today. The further I run down the Liberal party platform the more I find myself agreeing with and the more I start thinking about joining the Liberals. Though there is always a nagging concern that the Liberal party is merely a special-interest party of big-business, I have yet to see any compelling evidence of this fact (feel free to point me towards some).


I went to the South Australian Youth Parliament in July this year. It was a thoroughly exhilarating, exhausting and stressful week. Indeed, I have never had a more stressful week in my life. I have never had a more entertaining week in my life. At the start of the week a guest speaker (I think it may have been the YMCA director) spoke about how the program could be a life-changing one for the participants. I scoffed at this notion. I still don’t support it fully. It is an over-statement, but not an especially egregious one. My confidence has grown exponentially. It was, perhaps, the catalyst that has spurned a major shift in how I view myself and the world around me. I may not appear at all changed to those around me, but I feel different. The week was phenomenal and I met a large number of interesting people. Including some like-minded individuals (at least on the politics and policy front) who, it turned out, are members of the Liberal party. It was an eye-opening and thought-provoking week. I left convinced that I would be joining the Liberal party within the week.

After recovering from the sleep-deprivation that permeated the program I did some further research – including reading the party’s charter and latest platform. I was convinced. I may not support all of their positions, but I support most of them. Yes, the current federal leadership irritates me at times, and yes I would be a very wet Liberal. I thought (dreamt?) that maybe if I joined I could work my way into a leadership position and bring the Liberal party around on those few areas on which I disagree. I signed up for a membership kit that night.

Two things followed on from this decision. I had not expected either of them, though in retrospect I should have expected both. The first thing was that more than a few of my friends suddenly weren’t so friendly. It would seem that it is fine for me to argue a right-wing conservative position in our regular lunch-time debates, but that it is not even remotely acceptable to actually belong to a party which supports that position. I have never been quiet about my beliefs. I have never been shy to voice my opinion on any topic, regardless of the controversy, regardless of the political incorrectness of my view. So it was surprising when a collection of friends started treating me differently, started treating me like I was the enemy. My views hadn’t changed. My beliefs hadn’t changed. My opinions hadn’t changed. My desire and willingness to stand for what I believe in hadn’t changed. I was still the same person. I remain baffled as to their reaction.

The second thing was the federal government losing their minds in regards to the Haneef case. This flagrant civil rights violation had me sitting up and re-examining everything I had thought about the Liberal party. I cannot support the mainstay of the current federal leadership. The mainstay of Cabinet hold views I cannot support, views that I will not support. How can I join a party that I cannot publicly support on important issues?

I thought for quite some time about it. I still agree with the Liberals on a large number of issues. Indeed, I agree with them on far, far more than I disagree. They probably occupy a position closer to my views than any other political party in Australia today. If I join a political party I will be aiming for the important positions, probably even a state or federal seat in parliament and ultimately the parliamentary leadership. I cannot join a party if I cannot toe the party line. I cannot toe the Liberal line on any security or civil-liberties matters. They ban books. They detain innocents. They act against the judiciary. They blur the separation of powers. They ignore States-rights. They ignore Ministerial-responsibilities and accountability. I agree with them on much, but I am neither capable nor willing to toe a line that I do not believe in. Joining the Liberal party would merely set me up for failure.

This leaves me in the same conundrum I was in at this time last year. I have strong political views. I believe, fervently, that there is a social and civic duty, a responsibility to voice your opinions and beliefs. I believe that one is obliged to stand for what they believe in. I believe that one cannot sit by and blithely watch others mismanage their nation or their state. You have a social responsibility to watch for wrongs and evil. If you see them you have a moral obligation to voice criticism. If you see them you have a civic duty to act. For me this means standing in the public eye and presenting my argument. For me this means actively working within a political party to bring about the change that I see as necessary, to work to protect us from abuses of our civil liberties and freedom.

How can I do this if I can support no political party?


Daniel O'Brien.




Note: In the above post I talk about being right-of-centre. Whilst this is not a grossly inaccurate statement it is not a simple truth. The Political Compass notes me as slightly left and slightly libertarian. My own examinations note me as slightly right on an economic scale and moderately libertarian. Defining a political position is a complex and likely impossible thing. I am pro-choice and pro-gay rights. Two strongly left positions. I am against affirmative action and dislike unions. Two strongly right positions. Overall, if you were to sum all of my positions on any given topic you would find me somewhat in the centre. I believe that no position is permanent. On any given topic what is wrong today may be right tomorrow. This is especially true on economic policies. Protectionism has its time and its place, though a free and competitive market is the aim and will bring the greatest good to most. Extreme positions – left, right or otherwise – are foolish and will ultimately fail. A considered, researched and integrated portfolio of solutions that are regularly, frequently and critically reviewed is the only responsible choice.

Just How Valuable Is An Iceberg Lettuce?

I wanted to make a Chicken Caesar Salad for lunch today. Unfortunately, I put our (never actually) weekly shopping list together in a rush last Saturday and neglected to include cucumber and lettuce. Thus we had neither and I was lacking two essential ingredients for my salad.

One of my housemates was also contemplating our lack of ham (or any other sandwich meat for that matter) and I had reason to go to the bank in the early parts of this week and so it was that we set off. Our little plan was akin to a surgical snatch-and-grab style operation. Neither one of us really wanted to leave the house, but we both wanted our lettuce, ham, cucumber, and banking services just that little bit more than we wanted to stay home. It was with some annoyance then that our short little strike managed to turn into a lengthy adventure with no clear exit strategy.

We went to the Coles at Windsor Gardens. Now, normally I do all of my shopping at Woolworths. I preferred BiLo, but since Coles-Myer deemed BiLo a redundancy I no longer enjoy that option. Ironic then that I now shop nearly exclusively at Woolworths. Today though, we went to the Coles simply because it is next to the bank I needed to go to.

Would you believe that we could not find the iceberg lettuce? We looked everywhere. Three times. Confused as to our inability to locate something so basic, so essential that surely there isn’t a supermarket in the country which doesn’t stock it, we asked a not-quite-friendly storeman where we could find our beloved iceberg. Somewhat grumpily he pointed in the general direction of the fruit and veg section and gruffly said “that way”. I was expecting another round of pointless searching, but the man did actually wander over with us and was quite obviously startled at the distinct lack of anything resembling an iceberg lettuce. He said he would go and find out for us and disappeared through the doors to the staff areas. I suppose I can understand his cranky attitude. He was, admittedly, in the middle of restacking some shelves and it does seem an insane request, along the same lines as “Excuse me, I don’t quite seem to be able to find the cash registers…”

This gave my housemate and me sometime to stand around and look at all the produce that was available. We don’t tend to pay a lot of attention to the specific prices of various goods, we may be ‘poor students’ but we are actually reasonably comfortable and when it comes to food we basically just buy what we want. We have, however, noted the price of some items. For example the short-cut rindless bacon that we buy at least half a kilo of each week sells for about twelve dollars per kilogram at our local Woolies. Capsicum has tended to sell for $3.98 or $4.98/Kg for the traditional colours and nearly double that for the crazy orange and yellow varieties.

And so the $6.98/Kg price tag for red capsicum at Coles Windsor Gardens grabbed my attention and, in fact, convinced me not to purchase any capsicum today. A quick look around the store revealed several other items that were priced at least a little higher than they are at our regular Woolworths. Interestingly the green capsicums were on sale and selling for a mere $3.98/Kg (damn our house’s preference for red capsicums).

The man came back and told us that the lettuce delivery that day had been sent back due to the unsatisfactory quality of the iceberg lettuces and thus there would be none today. I was disappointed, but I both accept and applaud the store’s decision. I would have been far more unhappy and disapproving of low quality, inedible lettuce than I am of their lack of lettuce. So we looked at the other varieties of lettuce and purchased some oak lettuce instead.

That turned out to be a mistake. We tried the oak in the car. I couldn’t quite decide if it tasted more like leaves off a bush that I had in my front yard when I was ten or grass. It is perhaps best not to question what I ate when I was ten. This lettuce, however, was chewy and largely flavourless. It was nothing like the crisp, watery iceberg that I had been looking for.

So, it was decided that we would go to another store and try our luck again. Around the corner, on the path home, is another Coles, specifically Coles Greenacres. I was interested to discover that the green capsicum was on sale at a different price here. A mere $2.99/Kg, nearly a full dollar cheaper for a three minute drive.

They did in fact have iceberg lettuce at this store. It was tiny. Barely larger than my two fists and for its size it seemed exorbitantly priced at $3.47 each. Even less appealingly it was various shades of brown. It looked edible though not long for this world and not nearly as nice as I would normally like. In retrospect it seems silly that I would have tried another Coles, after all they likely get their lettuce from the same place. But, my desire for lettuce was strong and I was even more determined to thwart the universe’s seeming desire to leave me without lettuce. So I grabbed the least unappealing one and headed to the checkouts.

There were lines. Long lines. At all of the open checkouts. My housemate and I stood in a line and discussed, you could say complained (albeit jovially), about the price of lettuce and the fact that a store had actually failed to have any in stock. As I looked around I remembered the green grocer across the walkway. I assumed they were likely to have cheaper and better lettuce than we currently held. So we returned our lettuce to its pile of brown runts and looked for a way out of the store. The options seemed to all involved pushing past someone, be it a little old lady, a fat smelly man, or a scary-looking tattooed guy with a grim expression. So we found some railings to jump and walked across the hallway.

Indeed the greengrocer did have iceberg lettuces. They took us all of five seconds to find. Better yet we were presented with options – we could get our lettuce inside a ‘stay-crisp’ bag or rolling around free. Even better was that the lettuce was cheaper at the green grocer ($2.99 without the ‘stay-crisp’ bag, $3.25 with the bag). The best part was that the lettuces were a decent size, easily more than the twice the size of their inferior cousins across the walkway. They even managed to avoid having brown leaves and stems. We bought a nice-looking lettuce of good size that wasn’t inside a ‘stay-crisp’ bag.

I imagine that by this point you are asking yourself why I have been harping on about this lettuce. It could be that I want to disparage Coles and their ineptitude at ensuring the supply of a non-defective basic good or it could be that I want to expose the blatant profiteering in their price-setting from store to store.

In truth, I have no particular interest in either of these things (today at least). I’ve gone grocery shopping somewhere in the vicinity of one to two thousand times over the last ten or so years. I have no idea how many times I have been to Coles, but I imagine that it at least tops one hundred (Woolworths would be at least twice that, and BiLo many times that). This is the first time I have ever encountered any major supermarket not having such a basic commodity when I wanted it. Their produce may not always be of the quality I want and they have often times not had the seasonal fruit that I had a hankering for (though I suspect this has something to do with my complete lack of knowledge as to fruit seasons and my desire for high quality fruit to be in store whenever I happen to want it). However, they have always had apples, iceberg lettuce, and milk. So, I am happy to give them the benefit of the doubt and assume that I was merely an unlucky individual who got caught out in a one in a million event.

I see even less reason to attack their profiteering. Price-variations can be due to a myriad of events and it is not entirely unreasonable to give some benefit of the doubt to the various Coles stores. Perhaps the Greenacres store mistakenly over-ordered the green capsicums and so chose to set the price lower, or perhaps there has been even less demand for green capsicums at Greenacres in the past few days. Even if it is simple profiteering, Coles is a competitive retailer, on the average and in the long-run I have little doubt that their prices are roughly equal to those of other chains. Any over-all trend is likely to be due to differences in rental costs and other overheads and is likely to be corrected by the market if they are large enough to be noticeable to the average consumer. Furthermore, if I wanted to, if it was worth it to me, I could quite easily go to the multiple stores and determine how I could best construct my shopping list so as to get the cheapest possible basket of goods. I choose to pay the premium on the occasional good to get what I want, when I want it, where I want it. So, I have no actual complaints about their pricing structure. (Tim Harford provides a well-written explanation and discussion of this practice for the layperson, alongside a series of explanations that practically amounts to an Economics 101 course, in his book The Undercover Economist (official site, amazon.co.uk)).

No, my reason for telling this story is to ask a question. Would you have done much the same thing to get the lettuce for the salad you just had to have?

I suspect the answer is, if people actually look at their past activities, likely to be a ‘yes’ far more often than it is a ‘no’. To get my lettuce I spent about an hour and seven dollars. That doesn’t take into account my petrol, wear-and-tear on the car, the other driving-caused externalities (emissions, wear-and-tear to the road, congestion), the increased wear-and-tear on my clothing from being exposed to the weather, the displeasure at getting rained on, or the time and effort that my housemate also expended. How much does all that come to? How much did I actually spend on the lettuce?

Well, let’s start with the cost of the lettuce itself: $2.99, or rather $3. How do we count the oak lettuce that I bought? I never would have purchased it if the initial Coles had had the iceberg that I so wanted. I’m also unlikely to actually use that lettuce now that I have iceberg (and now that I’ve tasted the oak). So, there is an argument to be made for including that in the cost of the lettuce. Except that to make that argument would be to violate one of the fundamental principles of economics – to ignore sunk costs. So, we do not count the cost of the oak lettuce at all (at least in so far as working out if I should have gone to such effort to get an iceberg lettuce). I will look more at why we ignore sunk costs after the remainder of the cost breakdown.

The next range of costs looks at my travel and time expenses. The tricky part here is that I did not go to the store just to get lettuce. I also needed to go to the bank and I needed to get cucumber. To complicate matters further, my housemate accompanied me – she wanted to get lettuce and ham.

Travel costs need to take into account all the costs that I bear of travelling to and from the store. I will deal with the time I spent separately. I travelled for three goods – banking services, lettuce, and cucumber. The amount of extra non-time travel related expenses for driving to the second store were miniscule, so I shall ignore them (it would have been no more than an extra 50m of driving). Since I was equally interested in all three goods, it seems reasonable at face value to suggest that the lettuce was responsible for one-third of the travelling. I travelled about 6Km each way to the Windsor Gardens store, so my total travelling was about 12Km. So at first it seems reasonable to say the lettuce was worth 4Km of travelling. However, if I had not wanted the banking services I could have travelled to my local Woolworths, which as a return-trip would have been a mere 4Km. So, I shall split the 4Km between the cucumber and lettuce, and leave the remainder to the banking services. So, the lettuce was worth 2Km of travelling.

My car gets about 6L to the 100Km, and once you do the calculations this implies that I used about 0.12L to get the lettuce, which given I last bought petrol at 130.9c/L means I spent not quite 16c on petrol for this journey. Hardly a significant amount and far less than I had anticipated, else I very likely may not have bothered to include this amount.

I will ignore the fact that my housemate accompanied me for this part for two reasons. Firstly, I would have gone regardless of whether or not she had and secondly, despite her accompanying me, I still bore the full cost of the travelling – she did not pay me any petrol money or anything else like that. Thus she did not actually change the travel-related costs that I faced.

For the sake of simplicity I will also ignore the other costs associated with the journey. The annual car registration, the initial purchase of the car, and the comprehensive insurance which protects it are all up-front costs and as such have no marginal cost – that is, they did not cost me anything for this journey. I will still have paid those costs regardless of whether or not I made this trip. The maintenance of the vehicle would be a miniscule cost (~$200 per 10,000Km) and the externality costs are not actually borne by me. Whilst I would like to claim to be a conscientious citizen if I am to be realistic then I must admit that the carbon emissions (and other pollutants), the congestion, and the increase in risk of a vehicular accident caused by another driver on the road did not factor in to any part of my decision making process.

What did factor quite strongly into my decision was the fact that it would take time and there were potentially better ways I could spend my time. The whole trip took an hour. A part of that was due to the banking services I desired – about ten minutes in total was extra driving time, and another five minutes in the bank. So, the proportion of the trip that was due to my desire to have lettuce and cucumber was about forty-five minutes. The tricky part here is that my housemate who accompanied me was only interested in lettuce and ham, the entire length of the trip was devoted to those two goods for her.

I will deal with the time I spent first. As discussed above, for me only forty-five minutes of the trip was due to the lettuce and the cucumber. Of those forty-five minutes, ten minutes was travel time, five minutes was spent getting the cucumber (which I walked past and would have completely forgotten about if my housemate had not reminded me. Much thanks to her.) and helping my housemate get her ham, and five minutes was spent in the check-out at the first Coles. That leaves twenty-five minutes that was just me trying to find lettuce. A further seven and a half minutes is added to the lettuce time from travelling and the check-out at the first Coles. That means I spent a total of 32½ minutes getting lettuce this morning.

My housemate had no need to travel further for the banking services and so the entirety of her travel time is split between lettuce and ham. Using the same breakdown I did above (but replacing cucumber with ham), leaves her having spent 42½ minutes buying lettuce.

This brings us to the difficult question of what our time was worth. To simplify things I will assume that 42½ minutes of my housemates time and 32½ minutes of my time are worth the same amount (an assumption that could quite possibly get me into more than a little bit of trouble…) So, how do I assign a dollar value to this time. If I was at work I would want no less than $15 for that half-hour. If a random person wanted to pay me to run around for that half-hour like I did, I would have asked for $20. However, neither of these figures are satisfactory. Had I chosen not to go and instead stayed home, I probably would have been doing a task that $10 or even a mere $5 would stop me from doing (notably watching an episode of The West Wing or reading the latest book I’ve purchased). How can one decide which figure to use? In the classes I have taken we would look at what else could have been done with the time, and what value that use of the time carried – helpfully, there would have been only one other option as to what could be done. Real-life, unfortunately, is not as helpfully clean-cut as a classroom model and there were about ten things I had been considering doing this morning, and so this process is probably not quite as useful and not nearly as simple or straightforward. For a start, some of those options – such as writing a blog post on Premier Rann’s new bikie laws, or reading the rest of my book – are difficult to value.

Ultimately it is probably impossible to pinpoint the precise dollar-value of that particular period of my time. However, since we are talking (mostly) about what I wanted and how I valued that time, I would put a price on it of $12.50. Now, that may not correlate well to my housemates view, but for this exercise it will have to suffice.

That brings the total cost of the lettuce to $28.16 plus a few fractions of cents and some (likely less insignificant) externalities. Of which I bore $15.66 and my housemate paid $12.50

Let me get this straight. We were willing to give over nearly thirty dollars of value for one lousy lettuce?

At no point did we seem to be acting in an irrational manner. At several stages along the adventure we asked one another if this effort was actually worth it. Each time we came to the conclusion that it was in fact worth the next piece of effort.

How does this happen? Why does this happen?

Well, it’s a fairly simple process actually. Rational people – and there is no reason to assume that we did not act like rational people for these purposes – ignore sunk costs and make their decisions at the margin. That is, they will ignore costs that have been paid in the past, and are irretrievable, as largely irrelevant to the current decision and they will make their decision based on the benefit from and the cost of the next unit purchased rather than on a basis of the average benefit or cost.

If someone had come to my door and offered me the lettuce for $15, I would have said no. I probably would have laughed in their face. It is a preposterous amount of money to spend on a lettuce. If they had come to me and asked me to spend a half hour chatting with a friend and walking around for the lettuce, I also probably would have said no. Though, it is arguable that that would be an irrational decision on my behalf. In fact it is far more likely that I would have taken the deal even if I didn’t want the lettuce – if only because I like talking to my friends and am more than willing to do so ad nauseam. Gods-only know why someone would offer you a lettuce. Which leaves us asking, why was I willing to do so when the costs came in small increments?

Firstly, we need to consider the premise that a rational decision will ignore sunk costs. Sunk costs are those costs which have already been spent and cannot be retrieved. So, the cost of driving to the first Coles was a sunk cost when it came to driving to the second Coles. I was willing to spend the five minutes it would take to stop at the second Coles on the way home and pick up a lettuce. That five minutes, taken by itself, was a low enough cost that I was quite happy to still get the lettuce.

Why does it make sense to ignore sunk costs? Consider this: The cost of a replacement item is $3, and you get $5 value from it. If you spend the $3, you have effectively made yourself two dollars better off. How is that affected by the previous decision? The simple answer is that it is not.

There is a more complex way of looking at this that most first year text books and courses seem to ignore. They are right in that the sunk cost in and of itself should be ignored. However, they hold the rest of the conditions constant. That is they assume that the real-cost to you for the first good is the same as the real-cost to you of the second good. This is true, or so close to true as to make no discernible difference, when the good is a tiny part of your overall budget. It is not true if the good is a massive part of your budget. Consider the following example: You only have $20 and there are only two goods you can spend that $20 on – apples and movies. Each apple costs $2 and each movie ticket costs $10. Since you would die if you did not eat at all, the first apple is worth a lot to you, say $1000. The second apple isn’t worth as much, whilst one apple isn’t enough to relieve your hunger it is enough to prevent your death (kids see a doctor and get your parent’s permission before testing that theory), so the second apple is only worth $500 to you. Similar reasoning sees the apples decrease in value. The third is worth $200, the fourth $100, the fifth $50, the sixth $40, the seventh $30, the eighth $20, the ninth $10, and the tenth $5. The first movie you see is worth $160 to you, but after that you are bored of sitting still and the second movie is only worth $100.

So you take your $20 and you think about how to spend it. You have three options for bundles that you can buy. You could buy no movie tickets, one movie ticket, or two movie tickets. If you buy no movie tickets, you will buy 10 apples. This gives you $1955 worth of value. If you buy one movie ticket, you will buy 5 apples and get $2010 worth of value. If you buy two movie tickets, you get no apples and only $260 worth of value. Clearly the best option is to buy one movie ticket and five apples. It will give you the most value for your budget.

If you were to lose six dollars on the way to the supermarket and cinema (and this is effectively what a sunk cost is – lost money, a lost ticket, or wasted time) then you would have only $14 and suddenly your options would change to one ticket and two apples, or no ticket and seven apples. The seven apples are worth $1920, whilst the movie ticket and two apples are only worth $1660. Suddenly the sunk costs are indirectly taken into account.

It is the change in your wealth rather than the sunk costs which may affect your utility function. It doesn’t matter if these wealth changes are because you lost a lettuce or because you bought some silverside.

Admittedly, this is not actually relevant to today’s adventure, the sunk costs did not affect my wealth sufficiently to have any discernible effect on my desire to have that damned iceberg lettuce.

Secondly, we need to consider how today’s adventure was structured. If the costs had been presented up front, they would have been far greater than the value of the lettuce and I would have never been willing to pay them. However, having already spent those costs there was no reason not to spend the next few dollars to get value from the lettuce that was worth more to me than those few dollars. I would still be better off than I was.

And so, by encountering the costs in small increments, where previous costs are irrecoverable we can end up paying nearly $30 for a single iceberg lettuce.


Daniel O'Brien.


Note One: Much of the above cost can actually be offset by viewing the value in the adventure itself. Firstly, it gave me something to blog about (blogging being an activity I derive pleasure from). Secondly, it was a source of amusement for me and my housemate at the time. Thirdly, the time was spent with my housemate which was enjoyable in and of itself. Fourthly, it allowed me to put some of the economics I have learnt in the classroom into action in my life, thus furthering my understanding (and passion) for the field. Is it possible that all of these benefits, once added in to the mix actually meant that I came out better today than the time, effort, and money cost me?

Note Two: Entertainingly. I forgot to put the cucumber in my salad. I didn’t realise that I had forgotten until I sat down in front of the television to watch an episode or two of The West Wing. At which point the opportunity cost of getting up from my comfortable seat was higher than the value I would derive from the cucumber. So I went without the cucumber. It would seem that the universe does actually win in the end.