Robert H. Frank is the Henrietta Johnson Louis Professor of Management and professor of economics. He is an expert on economic factors that drive consumption of luxury goods and services, on economic inequality in the U.S., and on the economic reasons behind commonplace business decisions. Professor Frank writes a monthly “Economics Scene” column in the New York Times, and he is an award-winning teacher of MBA students. Today Professor Frank discusses his unique philosophy of teaching economics, as well as the effects of luxury spending on the overall economy. I: It's April 24, 2008 and we're here at the Johnson School with Bob Frank who's the H. J. Lewis Professor of Management and an economics professor here at Cornell. We're going to start by talking a little bit about your journey and what brought you and intrigued you about economics and why. So I'm thinking if you want to start back at least as far as college and sort of narrate for us sort of how you got to where you are now. I was a math major at Georgia Tech. They didn’t have an economics major, probably I wouldn’t have been one anyway if they'd have one but I did take a couple of introductory economics courses while I was an undergraduate and I remember liking them a lot but not giving it much more thought. Then went in to Peace Corps for two years. I was a math and science teacher in rural Nepal in a village high school and it was quite customary for Peace Corp volunteers to get the idea that they wanted to come back and study development economics. That was really a very popular career path for ex-Peace Corp volunteers. So I started applying to graduate schools in economics thinking to do that. I went to Berkeley and was intending to do that, discovered they didn’t have a very good program in that when I got there and so just drifted into other areas but that was my story, and really I have to say a stroke of good fortune for me because I think it ends up being a good discipline for me given my interests and predilections and I think it wasn’t any careful planning that led to it really. I: More opportunistic pathway and did you come directly to Cornell? RHF: I came directly to Cornell after getting my PhD at Berkeley. This is my first academic teaching job and I've been here ever since except for leaves of absence. I: From your perspective as an educator when MBA students are thinking about coming to the Johnson School, what are some of the things you think they should be thinking about accomplishing while they're here? Well I think MBA training has a certain common element in all the good programs. Somebody who chooses an MBA program will graduate well versed in accounting and finance and economics operations. I think beyond that what's really important is to shop for the kind of community you want and I think people don’t give sufficient attention to that. These are going to be people you're going to be spending an awful lot of time with over the next two years when you come and if you choose a tight knit community, we've got one here. There are other places that do too. I think when people leave; they leave with a much richer experience under their belts. They maintain ties much longer. They come back for reunions. They keep in touch with their classmates. There are many other programs where ties of that sort don’t really get forged either because they're so big or they're much more impersonal. So I think that’s a dimension that isn't on many people's radar screens when they're thinking about where to go but should be. I: And what about your choice as a faculty member at Cornell, was there something about the university in particular or the department or the school in particular that really drew you to here? RHF: I thought it was beautiful when I came to visit. I'd never lived in a cold place before and I remember flying to Syracuse and renting a car and driving down, seeing the ice covering all of the rocks next to route 81… never seen that before and so just the idea of winter seemed like a real adventure but I came here because it was the best job I was offered. RHF: I was thinking to go on more interviews but then Cornell said you have to decide this week and the interview wasn’t until two weeks later. So I said, sure I'll come. I: And as an institution do you think for … so say a young faculty member is considering Cornell, is there anything in particular about the Johnson School that you would want them to know about? Again I think the strength of the community is a big plus that most people wouldn’t really be aware to think in terms of when they're shopping for a job. I mean most people when they shop for a job, look for the superficial things. What's the pay, the pay doesn’t really vary that much, so that’s not ordinarily decisive but you know, still some people choose a place if it pays a little more. Rankings are one of the first items people look at, as long as it's a top ranked school and has excellence in your area, I think that’s really an issue either amongst the things you would even consider, places you would even consider. So yeah, I think go and visit the place, meet the people and see it if you can imagine yourself living in that environment. That’s a very important step. I: I want to get into an area that I think is pretty near and dear to your heart which is the teaching of economics and how you blend and weave together some of the research interests that you’ve had with your teaching program 'cause I know you have some very strong philosophical views about how economics is taught. RHF: Yeah, I think my ideas about teaching were shaped to a large extent by my experience as a Peace Corp volunteer trainee. In high school and then in college I had taken language course. I took four years of Spanish and then a couple of years of German and then went to Spain and Germany and people couldn’t understand what I was trying to say to them very well. We didn’t learn much in those courses I think because the professors threw what they thought was interesting and challenging, the plu-perfect subjunctive, all these arcane grammatical details but the Peace Corp language training program was totally different from that. We never learned the name of a single verb tense. We didn’t diagram any sentences. There was no formal grammar of any kind. What they tried to do was mimic the pathway that a toddler walks down trying to learn to speak his native language and so start very simple, repeat often, drill, drill, drill. If you can't do it on your own you're not ready for the next step. We had to go after 13 weeks and stand up in front of high school students in Nepal and teach the Nepali… of course, none of us had ever heard a word of Nepali before we started and we did it. You know, it was incredibly empowering to be able to feel like you could communicate after such a short time and it's the exact same problem I think in college teaching in many fields but particularly in economics, we've got very clear evidence now that the students who take the typical introductory course, then six months later if we give tests to probe knowledge of basic economic principles, those students don’t do any better than students who never took the course at all. So as far as we can measure, we're not adding any value in these courses and it's … it doesn’t seem surprising, they like the language courses. We give them very complicated graphs and equations and throw a whole lot of material at them and it's pretty bewildering I think when you think about it from the perspective of somebody who's never seen any of that before. And so what I've been trying to do for the last … at least 15 years in my introductory course is to try and bring some of the lessons from that Nepali language program into the economics classroom and basically the idea is very simple. You know, there are a handful maybe 5 or 6 basic principles that do most of the heavy lifting in economics and if you can embed them in simple easy to grasp narratives involving examples that are familiar to people from their experience, they can quickly master those principles, you know, if you use them over and over again during the term, by the time the term ends, you're really quite good at economics, the things that count and I ask them to write two brief papers, I call it the economic naturalist assignment because it was inspired by biological naturalists, the people who go out in the field and try to explain what you observe. So their challenge is to pose an interesting question based on something they’ve seen on experienced personally and then in 500 words or less use economic reasoning to suggest an answer to the question and over the years I've gotten some fabulous questions and answers turned in. When you hear an interesting question, the first impulse is to tell somebody, pose it to somebody and see if they can answer it and if it's got an interesting answer then you'll explain the answer and enjoy doing that and then in the act of doing it you'll just get better wrapping your mind around the underlying ideas. So why for example, is the drive up ATM machine… why does it have a keypad with braille dots on the buttons? This was posed by Bill Joe, a student ten years ago and it's meant to be a joke really when you hear that question, comedians sometimes ask that question thinking well, the producers must just be stupid, you know, if they know the drivers can see why they put braille dots on the drive-up machines but Bill Joe said, the drive-up machines have braille dots because they're going to make machines with braille dots for the walk-up locations anyway, once they’ve done that, it's just cheaper to make all the machines the same way rather than have two separate inventories and worry about whether the right machines go to the right destination. It's just cheaper basically was his reasoning. The benefits in saying, the dots don’t cause any inconvenience for drivers and the cost of making one size fits all is just lower than custom to design. So questions like that over and over again people come up against interesting ones, they talk about them and I think once you’ve answered a couple of those, that’s what they have to. Then you know, they just seeing economics at work in everyday settings all the time and they get better and better at it, never mind six months later they can't remember anything. Six months later they’re even better at doing that. So that’s the revolution I think we can start if we can really push this out a little further. I: I think that kind of drill so to speak is a creative drill, right, because you're using their natural curiosity to drive having a way of looking at the world. RHF: It is not easy the first time to come up with an interesting question. I mean you’ve got to think of a bunch of questions before one will sound interesting when your roommate hears it. So that’s by itself a good thing, you know, you’ve got to watch and think about a lot of things before you can come up with a question but then once you’ve got an interesting one, you just want to tell people about it. I: And it's a little viral isn't it, because if you were at a party and you start talking about something like that other people start thinking and yeah, and why is this and why is this and many things you know, that can be explained once you apply the basic framework of economics. So I just found that really fascinating. Let's shift gears here a little bit and talk about the work that you’ve done in the sort of spending, luxury spending and middle class impact area and I think it's such a timely issue, you’ve been working on it for a long time and it's been a focus but especially now in the world of the Paris Hilton sort of luxury ultimate like super rich spending and the growing awareness of all the other well-being in the world. So I thought maybe we should start with some basics, just some basic terms so the listeners are gonna follow the rest of our conversation. So may be you could say a little bit of a word about positional goods and maybe give an example of what you mean by that term. The term positional good is one coined by the late British economist Fred Hirsch in a book in the mid 70s, Social Limits to Growth. It's a good that takes its value primarily because of how it compares with other goods in the same category. So you know, if you have a car, well one thing a car does, it gets you from point A to point B but there are also positional dimensions of a car. Does it handle well, is it fast? Those kinds of questions are almost purely positional. What does it mean to be a fast car? Well in 1920 if your car got to 60 miles an hour eventually, you'd think it was really fast but now if it doesn’t get to 60 miles an hour in under six seconds it seems slow to many drivers. So there's that role of context that creeps into evaluation all the time and it matters much more for some goods than for other goods. So if you think about choosing between jobs with different amount of vacation time, well people will generally take one with longer vacation time even if they have relatively less vacation than others. If you think about choosing on more conspicuous dimensions like housing or clothing, then how it compares to what everybody else has matters more. So it's positional much more with some goods than it is with other goods. I: And then the word externality is used for lots of things but I think in economics it has a very particular meaning that I just want you to explore. Well the idea of an externality just means I do something and I don’t think about the side effects that it might have for other people and the standard usage in economics refers to pollution. So a company makes a product and it pays many other costs of making the products, buys the inputs, it pays the labor. One cost it doesn’t pay is the damage done by the smoke … downwind of its smoke, that’s an external cost or externality for short and we see what I call positional externalities all the time. If you get an advanced degree to land a better job, it's maybe not your intention directly to make it more difficult for others to land that same job but that’s an inescapable effect of what you’ve done. If everybody now needs a master's degree to land a job that 50 years ago you could get with a bachelor's degree, that’s one consequence of positional externalities. If you're going for a job interview, you want to look good, the placement counselors always stress that you get one chance to make a first impression and what does it mean exactly to look good. I mean it means to wear a suit that looks good relative to the other candidates for the same job and if everyone else is wearing a $300 polyester suit and you come in wearing a $2000 custom tailored suit and you're looking for an investment banking job, the interviewer may not notice explicitly who's wearing what but there's just from experience we know, there's just a greater likelihood that the well dressed candidate will get the call back and yet, if everybody spends $3000 on a suit, the same call backs go out as if everybody spent $300 on a suit. So you see these arms races in many different domains that are stimulated really by these positional externalities, the need not just to do well but to do well relative to the nearest rivals. I: I wonder what a little bit of the psychology is about this and why we're in sort of more of a runaway position because positional goods have been there forever right… RHF: That’s a great question. Why is it more important now? And The real driver of the attention to luxury and all this positional arms race that we've seen has been a change, a really deep fundamental change in the distribution of income. If you look at the rate of income growth in the three decades after World War II, the rich saw their incomes growing during those decades by 3% a year, that was too for the near rich, the middle class, the poor even saw their incomes growing in about that same 3% annual rate. So yes, then the rich were spending more on houses and jewels and travel than everybody else but it was in a traditional balance similar to what it had always been. What happened was that in the mid 70s, early 70s maybe even the pattern shifted entirely, there was suddenly no more growth at the bottom of the income distribution. Incomes have been essentially frozen or even declining in real term since then. In the middle, very modest growth, 15 or 20% over the last 30 years for the median family, in real inflation of just purchasing power but you go in the top fifth, that’s the first quintile you see significant growth. Most of the growth there is in the top 1%. If you slice the top 1% up most of the growth there is in the top 1/10 of 1%. So now you see really spectacular income growth at the top. These people have way more money that we're used to seeing, they're normal. They spend their money and the things they buy are unlike what we're used to seeing. It's like a seven-foot tall kid in the seventh grade, you notice. A seven-foot tall player in the all star NBA game, you don’t notice. It seems almost normal. The spending at the top is the seven-foot tall seventh grader. We just notice it because it's so unlike what we're used to seeing. I: Is there a western dimension to this or … I mean I can think of a lot of developing economies where there's a huge gap between the rich and the poor but are they just so separated in time and space and connection that it doesn’t have the same influence or is it more of a you know, western development I guess. RHF: That’s a good observation. In many developing countries, there's even more inequality than here. The distribution of income in those countries tends to be more bimodal, a lot of people at the bottom and a small group at the top, not much in the middle. Here it's more spread out. It's very segregated in the underdeveloped countries where income inequality is high. In the west, there's been a rise in inequality in almost every country but much more in the US than in any other country. We have now the highest inequality by far of any western country and in the UK, it's next, Australia is also high. The continent of Europe has also increased but not nearly as much but we see it in India, China, Russia, there's been inequality growth everywhere mainly because markets have just grown so much more competitive and you have less influence from social forces on what people get paid and more on wealth. What have you done for me lately, if you left how much money would we lose on the bottom line as a result of your departure and there have always been key players that were worth a lot to organizations but you know, a good CEO, GM was always worth tens, hundreds of millions of dollars extra but you didn’t have to compete for the top CEO or GM before, it was always somebody promoted from within. Now there's an open market for CEO talent and so if a slightly better decision in the CEO's chair means tens or hundreds or millions extra on the bottom line, you end up having to pay big dollars to get the people who are thought to be able to deliver in that kind of a job. So yeah, it's the pressure of competition mainly. I: Do you think that this whole psychology of positional goods is from hunting and gathering day… I mean is it evolutionary, do you think, is it cultural, is it too hard to tell? RHF: Yeah. There's obviously a lot of cultural influence. I think in some Asian cultures it's thought to be very undesirable to stand out from the pack and so people try to minimize the extent of any good fortune they might experience so as not to call attention to themselves. In other environments people seem eager to beat their breasts and yell, look what I've got. So yeah, you see an enormous cultural variation on that, but the idea that it's aversive to be at the bottom of the heap I think is universal and that’s probably an evolutionary vestige. When we were evolving there were frequent famines and always some people got fed during a famine but the ones who starved were those at the bottom of the heap, bottom of the social ladder. The people who married were typically in the puligenous societies, the males at the top of the heap took multiple wives, that meant that males further down in the queue didn’t get any wives at all. So I think the real rewards, the real survival imperatives always did favor being ahead in relative terms and you know, the neuro scientists now have identified specific brain mechanisms that are quite attentive to relative comparisons and where we stand. So yeah, it's partly hard wired. I: You’ve made us … the case for this inequality increasing and being at the highest level anywhere else in the world. Can you articulate the effect this is having, so luxury spending now, its impact on middle class in the sense of externalities. RHF: Yeah, Probably the easiest example to see how the spending of the rich affects others is the housing market. So the people at the top because they have so much money are building bigger houses. I think it's a big mistake to get angry at them for doing that. That’s just a lack of perspective really. The house I lived in, in Nepal had two rooms. The roof leaked, it was a grass roof, if it rained hard. No electricity, no plumbing. No one here would feel comfortable inviting friends over if you lived in a house like that but never once during the two years that I lived in that house in Nepal did I ever feel embarrassed about living in. It was a totally acceptable decent house in that local environment. If my Nepali friends could see the house I live in here in Ithaca, they would wag their fingers and say, well what would anyone need such a house as that but you wouldn’t. It's a totally normal house in this environment. So the rich spend more, they built bigger. Okay, that’s totally not surprising. What's nice here is that the middle class doesn’t seem to get angry about that. They don’t shake their fists at the rich. They want to see pictures of the mansions. There interested. So they watch Lifestyles of the Rich and Famous. The people just below the top though, they're influenced by the spending at the top. So maybe now it's the custom to have your daughter's wedding reception in the home or dinner parties for 36 not 24. So they need to build bigger and they overlap with the groups just below them. They too build bigger and it's cascaded one narrow level at a time all the way down the income ladder so that now if you're the median earner and you want to buy the median size new house for your area, it's now 2400 square feet. In 1980 it was 1600 square feet. Well, what the problem? The problem is if you're the median earner you don’t have anymore money than the median owner had in 1980 or at least not very much more. Well, then you shouldn’t buy a bigger house. Okay, but if you don’t and here's the real rub, if you don’t spend as much as other people do on housing in your area, your kids will go to worse schools in most areas. There's a clear positive link between how good the schools are in the neighborhood and how much the houses cost there. Partly that’s because of property taxes being the source for funding school budgets but even when that’s not the case, the better schools are the ones that are located in the more expensive neighborhoods. Everybody wants his kids to go to a good school. A good school is a relative concept. It's a positional good and so everybody is bidding more just to keep from falling behind and in the end it's like interview suits you know, if everybody spends more for a house at a better school district, the only effect is to bid up the prices of those houses and that’s I think in a nutshell why people in the middle are having a hard time meeting their bills today. They’ve got to meet a standard that’s just much harder for them to meet on their paycheck. I: I think it's extremely clear for us as economists why the … especially the buying the suits is an inefficient solution but I wonder if you can explain to the lay person so why is that inefficient for everyone to be spending $3000. RHF: Well when you think about a military arms race, I think almost everyone thinks that that’s inefficient at least if the antagonists are well matched. So we build more bombs, they build more bombs. The balance of power stays the same. There's no real increase in security but in the meantime we've taken resources that could have been used to build schools and hospitals and build bombs instead. RHF: So we try to curtail arms races like that when we can if we can verify that the other side's not building bombs as promised, then you're willing not to build them either because you both come out better that way. This is exactly analogous to a military arms race. It would be better if we didn’t all spend $3000 on a suit. We'd each have more money to save for retirement to do other things that would make a difference in life. Everybody is spending more on interview suit, that’s self canceling basically. I: One of the papers of yours that I read was arguing that traditional happiness surveys sort of overstate the influence of income on happiness. So could you say a little something about that? RHF: Yeah. There's an interesting phenomenon in the psychological literature known as the Easterlin Paradox. It's named after Richard Easterlin who's an economist who first really pointed it out, which is that if you look within a country at any moment, rich people on average are much happier than poor people or at least if you go by their responses to happiness surveys which come around saying all things considered how satisfied are you with your life these days. When you look at what happens to the average happiness level in a country over time as income grows it doesn’t move nearly as much as the difference between rich and poor. There's some recent work that’s beginning to find that richer countries are happier than less rich countries even once you get into the affluent country range. That’s I think totally plausible. We know that when countries get richer, good things happen. Life spans get longer, infant mortality goes down, environments get cleaner. So we know that having more income does helps us pay for things that really seem like they matter to human welfare and we're starting to see that show up in the happiness surveys now. But it's still true that part of what determines how well you think you're doing is the answer to the relevant question. How am I doing? Well you … how do you answer it? Relative to what? If I have the two-room house with the grass roof in Nepal, I'm doing okay. If I have the two-room house with the grass roof in Ithaca, New York, I'm in trouble. I: You're cold. One thing you said triggered another question I had about people are so aware now of the globe and its impending… seeming impending doom and I wonder if that will effect this luxury spending either through more of a sense of social censure against this extravagance or … what do you think will happen with that? RHF: You know, there's been the voluntary simplicity movement busily at work for decades in the US now. There are many books, lot of people have meetings. They discuss these things and what seems true is that it didn’t have much impact on the trends. People were buying bigger cars, bigger houses all through that. Now you can say maybe it would have been even worse except for their admonitions but as an economist my bias is that people will really change their behavior only if they get a clear incentive to do so and it's true moral incentives matter but I think unless there's a sense that everybody is falling into line then people find it easy to ignore admonitions, $4 a gallon of gas, that makes people think twice about whether an SUV really makes sense as a way to get back and forth to work. I: Along those lines of what incentives and signals could be sent, one of your proposals is to remedy conspicuous consumption by going to a steeply progressive tax on consumption. So let's hear a little bit of the case for that move. RHF: I mean the idea is if we spent … If we all at the top spent less on mansions, the same dollars could be used in ways that would make more of a difference to us. So right now we don’t … we've cut back funding for the energy departments program to round up loosely guarded nuclear materials in the former Soviet Union. These are materials that are guarded by soldiers who drink a lot, who don’t get paid regularly, don’t have high fences around their installations, terrorists are trying to get these materials. We know if they get them they can smuggle them out of former Soviet Union, that’s been shown experimentally and then if they do that, it's very easy to get them into this country in a cargo container because we don’t inspect 90 plus percent of the cargo containers. We say we can't afford to do that. So if everybody spent less on a mansion at the top nobody would be any less happy as a result of that because when everybody spends more on mansions the only effect is to raise the bar that defines how big a mansion you think you need if you're rich. So there'd be no loss from building smaller mansions though the same dollars could round up loose nukes and inspect cargo so how would you get people to do that. You could try to shame them into doing it. That doesn’t seem like it would work. The alternative I propose is a steeply progressive consumption tax which is very simple. You take your income and report it to the IRS the same as you do now, then you report how much you saved this year just like you would for documenting a 401(k) plan or a similar retirement savings plan. The difference between those two numbers, your income minus your savings is how much you consumed during the year and then we'd subtract off a big standard deduction, say $30,000 for a family of four and then have a very low tax rate on the resulting taxable consumption number when you start out when that number is small but then the bigger that number grows, the more you pay tax on the extra dollar of consumption and unlike the income tax where you can't have marginal rates going too high or you'll quash incentives to invest and save, you could have very high rates on the extra dollar of consumption. Suppose you're thinking about let's say 100% marginal rate on consumption, so a family … a rich family is thinking about adding a 2 million dollar wing on to its mansion. Okay, it could do that. It wouldn’t pay any tax penalty now if it did that. Under progressive consumption tax it would have to come up not only with the 2 million dollars to pay the contractor to build the wing, they would have to come up with another 2 million dollars to pay the IRS for the tax, extra consumption tax on the wing. Most people are gonna say in that situation, I think I'll shelter the money in a tax savings account or if they say well we'll build a 1 million dollar wing on the mansion not a 2 million then they pay some extra tax, we'd have money to spend on short change to public services and the rich guy wouldn’t be any the worse for wear. You know, everybody else would cut back on wings on mansions and they wouldn’t need such a big wing. It's manna from heaven. I: Sounds good to me. A couple of things on this strategy. It seems that you feel it's very important for it to be simple and transparent. So maybe you could say why you think that the… that such a tax would have to be very clear to the consumers. RHF: Well I think in general the tax goes way to complex and the idea of having a big standard deduction, 30,000 dollars for a family of four is that then you could just strip away a lot of the very complicated forms and itemized deductions that people have to go through and just say well, look here's the rate, schedule, you know, report, your income report, your savings and take your big standard deduction, that takes care of all sorts of miscellaneous expenses you might have had during the year and then the rate goes up. I: I'm sure you’ve been talking about this idea for some time and I'm wondering what is the pushback on such an approach. RHF: You know, I've spoken to many conservative audiences and if I can sort of outline the developments that have occurred in the country over the last three decades in about as much time as we've spoken here, conservatives will embrace a tax like this. They understand that yeah, the way the money is getting spent now doesn’t make as much sense for me the rich guy as an alternative way of spending the money. I think the illusion has always been, well if there's inequality, that’s good for me if I'm rich but in fact the magnitude of the inequality that we have now has really imposed huge costs on people even though they're rich. RHF: So you know, you're driving in to Minneapolis in your Rolls Royce and the bridge collapses, cold comfort if you're rich. You know, that’s smaller mansion might have been a good choice for you if it would have freed up money to inspect and repair the bridge. I: Yeah. It's hard to get people thinking in those terms of the public good side of it but … RHF: Yeah, you need more than a 15-second sound byte to try and have this conversation and often in political campaigns, we don’t get much more than that. On the other hand, you know, we've changed policies in the past, you know, we've rescued social security systems that were about to go under. We've done hard things. So there are ways to have the conversation and push the issue along. It's just … it takes a while. Remember when economists proposed issuing pollution permits as a way of cutting down on pollution. It's by far more efficient than the old method of just saying everybody has to cut back by half but groups were outraged at that proposal and they said, oh you're going to let rich firms pollute to their hearts content. What a silly model of a firm process… I mean we're going to pollute because we want to and we can afford to. Let's go pollute. RHF: You pollute because it's cheaper to pollute than not to pollute if you're going to have to buy an expensive permit to pollute then you look for a filter to put on your smoke … finally we're able to adopt that and it's been just as effective as the economist insisted all along that it would be. I: Yeah. It takes time. RHF: Yeah. It took 30 years. I: It took 30 years. That leads me to another question which is the kind of research you're doing, do you find any kind of a gap between that and what policy makers and business decision makers are doing, in other words, do they take the research we're doing in academia seriously, do you think there is barriers to dialogue between academia and business decision makers? There's been an enormous interest in research that can help people make money in the marketplace. I think there's … not only is there no impediment to getting that research out, the business community seems to have its antenna tuned very keenly to what might be going on here that would turn a profit for them. Some of the financial models that have been developed right here in this building have made lots of people rich on the outside and we've lost several professors to investment firms because they demonstrated a knack for being able to predict where stock prices were going to move before the market did. So I think if you're talking about research like that then no there's no barrier at all. It's on the contrary eager appetite for that research. Policy research, that’s often a different story. I have been trying to interest policy makers in the usefulness of doing something about positional arms races for about 30 years now and it's been slow going. Whenever I complained about this others say, oh you should feel encouraged, people are paying a lot more attention to this now but yeah, it's been a long time and I think still most of the economists who advice government a user model that says how satisfied you are with your house or your suit or anything else depends only on the absolute size of the house or the thread count in the suit, the context doesn’t matter at all. That’s what the model says and that’s just so not the case, so manifestly not the case. So it's not controversial to say that’s not true and yet still those are the models that are mostly influencing policies. So I think for me it's always been an interesting question in the sociology of science, why has that move taken so long. It's so obvious that there are arms races like this, what's the resistance and I think it's often been the way people talk about it. I think people think about positional goods and people's concerns about them as some weak aspect of the human condition, people are trying to keep up with the Joneses, oh that if we'd made a policy that would take that into account, that would just be legitimating envy as a human emotion and we want to never go there but it's not really about envy, I don’t think. I mean if you're a family and you don’t match the community spending standards on housing, your kids go to bad schools. You're not an envious person if you're attentive to what it takes to get your kid into a good school. That’s just totally normal. If you're worried about whether your suits okay for the interview, you're not a bad person. So I think … the more quickly people can see that it's not really about envy, the more quickly this whole set of issues will seem uncontroversial. I: I just think that’s a critical point. You wrote an interesting article about how we measure well-being from a policy perspective. I thought that was quite an interesting article and I wonder how you think … and I know again this is not a sound byte sort of question 'cause there's a lot involved but what about some of the principles behind how we could create some better predictors of well-being. What is the fundamental problem with the way that we're measuring it? The simple summary measure of well-being is per capita GDP, that’s what's used. That’s been long criticized as a misleading indicator of well-being. I mean when you have a crime wave and people go out and buy more expensive locks for their doors that makes GDP per capita go up and it certainly doesn’t seem to correspond to an increasing welfare. When pollution goes up and we have to spend more to deal with the problems caused by that, that’s an increase in GDP that’s reflected in that. GDP per capita doesn’t tell us anything at all about the distributional changes that have gone on the last 30 years. The average GDP has gone up significantly in the last 30 years. The median earner has not seen much growth in income at all. So the whole distributional issue is masked by GDP. We should be looking… if we're going to look at GDP we should look at GDP per hour, not GDP per capita because if it's GDP per capita and people are trying to get that number as big as possible, it may be that we have more pressure to work 60 or 70 hours a week. Is that a better life than working 40 or 50 hours and having slightly less GDP per capita, it doesn’t seem obvious. So I think supplementing the crude GDP per capita measure would be a useful thing because you know, you aim for what you measure. This is the criticism of the no child left behind approach. There… a very simple battery of standardized tests and the fear is that if that’s what you're measuring and basing rewards on then you'll be teaching to the test of leaving out everything else. So I think if you're going to measure and aim for a target you ought to have the best most inclusive set of targets you can come up with and GDP per capita isn't that certainly. I: As I was reading your works I was thinking a lot about entrepreneurship since that’s what my focus is and I'm teaching and I kept thinking how does this relate. In entrepreneurship, you're focused on competitive… sustainable competitive advantage and its value proposition and both of those… I mean that’s what the suit is right, it's a competitive advantage you have over someone else and I was … I just wondered if you had any thoughts about how it relates to … is entrepreneurship accelerating this in some ways, is it … I didn’t know if you saw any links or connections … You know, entrepreneurship is the most competitive… purely competitive domain in the economy and competition is wonderful, in some respects having more of it produces lots of good outcomes but having more of it also can produce more bad outcomes. I think Adam Smith never believed that the invisible hand always gave you the best possible outcome. What was remarkable, he thought was that it often did and that’s the way he put it in his book. People are often driven as if by an invisible hand to produce the greatest good for all. He was under no illusion that it always happened. So yeah, I think in some domains we've got too much activity, too much churning, too many people are looking for a forecasting model that will predict corporate earnings 10 seconds before the next best corporate forecasting model. If there were fewer dollars spent on all that there will be more resources available for more useful things but you know, we see many areas where a little bit of extra competitive push gives you a big breakthrough. I: I was thinking about also the funding environments for startups where a venture capital comes into play where that’s where big growth happens in companies. There's a lot of positional goods you know, activity and behavior there which people chase after the same thing because they want to be perceived as the hot new fun that’s chasing all the environmental projects when in fact you know, all those environmental projects, there's going to be a layer that’s really great and then there's not going to be as much underneath but … RHF: Well, if having bragging rights for being the green company is worth something commercially which it seems to be then you know, what does it mean to be green, that’s also a relative concept and so here ironically we get maybe a race to the top rather than the usual lamentable race to the bottom, you know, if to be green you have to be greener than the next guy, then you can arms race on green and if green is what we need more of, so much the better. I: I'm afraid it's going to come down to the same like how do we measure green question. RHF: Right, exactly. I: I wanted to kind of wrap things by talking about what you're looking at today and what you are excited about studying and talking and teaching about in the next… in the years ahead. Well I'm going to be on sabbatical next year. I'm going to spend the year at NYU. I'm very excited just at the prospect of having a year off to … I'll write a book and I'm probably at some point going to collect my New York Times columns into a book. I don’t know if that will be the book I write next year. I've also been intending to write a book on why we don’t take advantage of opportunities to make the pie bigger as often as we might. It's always been a mystery to me that if you don’t do it efficiently, efficiency in the economist's definition just means that the value of all goods and services is as high as it could be. So if you're not doing something efficiently that means total value could be higher, the pie could be bigger. If the pie could be bigger that necessarily means that everybody could get a bigger slice than before. So then the question is well, why don’t we make the pie bigger if everybody could get a bigger slice than before and many of the ways to make the pie bigger don’t automatically give everybody a bigger slice. Some people get a much bigger slice, others may even get a smaller one but then if the people who get a smaller slice have the power to block the efficient move which often they do, why can't they use that power to bargain for a bigger slice and let us make the move. So that’s the interesting question that I want to tackle in a book that I’d do.