Chocolate and Gold Coins

Saturday, November 11, 2006

Tax Cuts, Minimum Wage Hikes, and Perpetual Money Machines

The Democrats have come to power and straight away they are going to make a priority of raising the national minimum wage (which has not be raised in many many years). I was wondering why this would be a priority. Usually labor unions support minimum wage hikes because it is the ultimate in collective bargaining (we all stand together and insist on higher wages) plus it prevents firms from switching to cheaper labor. But labor union membership and power have waned in the US and they have very little political strength – so why would politicians care?

Then it occurred to me that the minimum wage to the Democrats is what the tax cut is to Republicans: they are both the financial equivalent of a sort of perpetual motion machine (you could call it a perpetual money machine if you like). The idea is simple: politicians love to give free money to people. But where does one get free money? It is never free- is it? Well it might seem free if you manage to get it without raising taxes or reducing spending. Both a tax cut and a minimum wage hike seem to fit the bill.

For the moment, let us ignore any pro and con arguments for either tax-cuts or minimum wage hikes. Politicians will not be persuaded or dissuaded by any such logic. All they care is: “Will it help me get elected?” And perpetual money machines do work for politicians: there will always be five to ten percent of the electorate that will believe anything – and five to ten percent will swing any election. So politicians would be fools not to try to get the votes of these silly people.

But here is the major problem: politicians creating “perpetual money machines” are politicians not doing their primary job. They should be doing the hard work of both finding legitimate public goods that are worthwhile taxing the common man to pay for and/or finding illegitimate public spending that should be axed from the budget. But this requires courage: some people will be harmed and they will be angry. You cut farm subsidies and the farmers won’t vote for you. You fund a new project and your opponent will call you a “tax and spend liberal”.

Politicians looking to make something worthwhile out of thin air by some alchemy will inevitably succeed in creating nothing out of something instead. I wish more people would send them the message: “Stop this foolishness and get back to work!”

Monday, November 06, 2006

Idea Contests

In my previous post, I mentioned as an afterthought an idea for giving partial protection for creating entirely new types of products that cannot be completely protected by a patent. I gave the pumpkin carving kit as an example, but there might be better examples. Think of the automatic toilet cleaner. People have been waiting for some time for this and it hasn’t come. I don’t expect it to come soon. I’m sure that someone can invent one but what then? You do a lot of hard market research for the guy who will swoop down and steal your business.

Here is a good example: Lotus developed the first really good spreadsheet: Lotus 123. A few years later Microsoft came out with a knock-off: Excel. Excel was a bit better – but they had second-mover advantage (and deep pockets). They took over and made the lion’s share. I’m not against competition but I recognize that Excel would not exist without Lotus 123 and Lotus 123 would not have happened if the developers could have known that they would lose out in the end to Microsoft. New products may never see the light of day without some partial protection.

Sunil asked a reasonable question: “[D]on't you think something like that would be hard to enforce? How does the company prove it was first, and not the knock-off?.” It is an important point – there will always be disagreements about who is deserving and who is not.

My proposal is to conduct a contest for the best such invention that solves a well-defined problem. The winner gets a five-year monopoly. No one is harmed here: there aren’t likely to be automatic toilet cleaners in the next five years anyway so what is the harm in granting a monopoly to something that otherwise would never exist?

In practice, entrepreneurs who already have a prototype that they want to protect will suggest most of these contests. But there will be enough time for someone else to finish their model and submit it as well.

The monopoly gives the entrepreneur the ability to do the vital market research necessary to determine if the market is really there for this product. People need to be educated about a new product that no one knows anything about – like a personal computer. And the firm needs to learn how much people are willing to pay for an entirely new product.

The competition will soon have their chance. Five years passes quickly. But a five year running start gives the first-mover a real chance to make a quality product that can take on the competition. Everyone thought Barnes and Noble would crush Amazon dot com but they moved too slow and Amazon grew into the behemoth we see today. It just shows what a difference a few years might make.

Thursday, November 02, 2006

Pumpkin Carving Kit Part II

A year ago, I wrote this nice piece about my son’s Halloween pumpkin and the nice pumpkin carving kit (Pumpkin Masters) he used to carve it. In that piece, I wrote of the reasons why an entrepreneur might have a great idea (like the idea to create a pumpkin carving kit) but still be reluctant to turn it into a business. I wrote:

It seems easy to believe that this was an obvious winner now but there are always a lot of questions to answer before a person with an idea becomes an entrepreneur:

  1. Is there a market here? In this case the market is extremely seasonal – this makes it risky.

  2. Do I have the lowest cost technology? If a competitor can make hand jigsaws for one-half the cost your supplier charges, you will be out of business quickly.

  3. Do I know how to market this product? Will supermarkets stock this item? You might produce a quality product that languishes in obscure shops for years until some bright fellow sees it, sees no patent, and makes a knock-off that he successfully markets in every supermarket.

Well, just this week I had to buy another pumpkin carving kit (we lost last year’s). I went to store to store looking for this nice kit we had last year. All I could find was a cheap knock-off. It cost only $5 instead of $10 but it wasn’t as good. Some of the patterns were of very poor quality and would have been impossible to create: the pumpkin would have collapsed. The carving saw was not the same quality as last year’s saw. It was just a cheap knock-off that was successfully marketed by CVS (the big drug store chain) and perhaps some other big chains to take over this market.

Next year I will plan ahead and get the real kit if I can find it. But it may be that Pumpkin Masters will be out of business by then. They did the hard work of showing that there was a market for pumpkin carving kits only to find that it will be the knock-offs that will get the market.

I feel that there might be an intellectual property right that is missing here. A firm that creates an entirely new good (not a minor improvement in an existing good) that nevertheless is not completely patentable should be given a short period – maybe five years – to market test their product before the knock-offs sweep in and enjoy the fruits of that hard work. This would give the creators of entirely new markets a brief moment of protection before the competition gobbles them up. Otherwise new markets never get created.

I wrote that there were never pumpkin carving kits when I was a kid. Now I know why. It is only just dumb luck that they exist for my son.