Genius Award Economist on Fed Leverage, ObamaCare, Obesity and L.A. Traffic

Kevin M. Murphy was the first business school professor to be chosen as a MacArthur Genius Award recipient for his work on wage inequality, unemployment, addiction, medical research, and economic growth.
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Interview with Professor Kevin M. Murphy, the George J. Stigler Distinguished Service Professor of Economics at the University of Chicago Booth School of Business.

Kevin M. Murphy was the first business school professor to be chosen as a MacArthur Genius Award recipient for his work on wage inequality, unemployment, addiction, medical research, and economic growth. If this sounds familiar to Freakonomics, it's no coincidence. This is the kind of work that the father of human capital, Nobel Prize winning economist Dr. Gary Becker, inspired both Murphy and Freakonomics author Steven Levitt to do at the University of Chicago.

Natalie Pace: We're spending almost $3 trillion annually on health care in the U.S. That is far more than any other developed world country, with worse results. What are some ways of trimming back on costs and improving health in America?

Kevin M. Murphy: We estimate that a 10 percent reduction in death rates from cancer is, in present value terms, worth about $5 trillion. It's a huge number.

When you go to talk to at the NIH or any of the organizations that focus on investments in health research, they are really excited about all of the things that they can do for people in personalized medicine and new biological breakthroughs and things that would really improve people's lives. But when you talk to the people who have to pay for it, they're horrified about how much it will cost. They say, "Please don't invent anything else because we can hardly pay for what we have."

NP: All inventions start out costly, don't they? And then they scale and create production efficiencies that lower the price point...

KM: We're not worried about the guys out there trying to invent a TV set that nobody will watch, because he has no incentive to invent a TV set that is so expensive that no one will buy it. But in a world in which people don't pay their own bills, you could have that.

If we can get our house in order with respect to spending the money, then we can do a lot more research wise. When you look at the plastic surgery market place, it doesn't look anything like most health markets that you see out there. Why? Because people are paying their own bill. Providers advertise their prices. There's a whole choice of range of quality and price that you get to choose among.

NP: It's hard to imagine anyone affording health care if it is not somewhat subsidized, and at the same time if it is over-subsidized, as you might say it is currently, then people aren't really able to make any rationale choice on it. The information is opague and there is no downside with just selecting everything on the table, partly because you have no way of distinguishing between goods, services, efficacy and pricing.

KM: You have to have a mix. We have to start thinking about things, like perhaps an integrated retirement/health care program where I can use my money to pay for my bills. I can borrow against my health retirement account, or whatever you want to call it. You still need catastrophic insurance. If something really terrible happens to it, it's going to have to be insured. But that's putting insurance in its proper place.

You know food is very important. But if you had a system where the insurance company was paying your grocery bill, that market would be a mess. It wouldn't look like the one we have today. I'm not saying health care and food are analogous. You don't really wake up one day and find that you have to eat a million dollars worth of food to stay alive, but that's why you have the catastrophic insurance. On the other hand, many aspects of health care aren't catastrophic. There are things that I can afford to pay for if I was allowed to pay for them over a number of years. It would be a little more painful than the current system, but perhaps we'd have more rational spending.

NP: The CDC says that about 80% of chronic diseases could be prevented with lifestyle changes, such as stopping smoking, drinking moderately, eating right and exercising. When you talk about the value of persuasion and indoctrination, how does that play into the solutions here?

KM: It's quite clear that you can push people toward healthier behavior, just like you can push them to less healthy behavior.

NP: Sometimes, forces work against one another. First Lady Michelle Obama is trying to get kids moving. Meanwhile physical education programs have been cut in schools.

KM: It's an interesting issue. We've raised the cost of physical education because we've decided that recess isn't good enough anymore. We need to have physical education teachers who actually teach you, rather than just letting kids play. That's a shame. Because there's a lot of value there. Recess used to be the cheapest activity in the history of the world. You just let them loose in the yard.

NP: With regard to incentives to increase exercise and reduce obesity, I visited Amsterdam a few years ago. There most people ride their bikes, even in the dead of winter. The cars are super small because they are taxed according to how much the car weighs.

KM: People respond to incentives. The evidence is overwhelming. Those incentives can be price-based, like a tax. They can be socially based incentives that make it socially acceptable to do this thing and not something else. They can be family-induced incentives, where family members push you to do something. That's true for adults, children and parents. The idea that we can influence people's behavior is important.

NP: I live in Santa Monica. The traffic here is a parking lot during rush hour. If someone wants me to drive to Hollywood to meet them at 5:00 p.m., I can't do it. It's impossible. There is no other way to get there, outside of leaving two hours earlier. This has been a problem for decades now.

KM: They should try a congestion tax. London has charges for people... They work.

NP: Surely someone has thought of that before. Why hasn't any politician implemented it?

KM: There is resistance to those kinds of things, until we actually try them and realize, "Hey, this actually makes life easier." Pricing things is not such a bad idea.

NP: I can certainly see a lot of the locals just jumping on a bike, then. And the ones who do have to make the trek past the 405 would say, "OK, I'm going to pay the tax. I have to make that meeting."

KM: And the people who are riding can get services to arise where you can rent bikes, a public fleet of bikes, or a private fleet of bikes, where you sign up to be a member of this bike rental association. Then you can just grab a bike and take it from one place to the other. A nice thing about that system is that you don't have to use the same mode of travel in both directions. I can take a bike to work and take the train home or catch a ride with someone else going home. There is a lot of flexibility that comes in when you allow people to do those things. And there are a lot of reasons why you might want to ride a bike one way and not the other way.

It's been used in various cities. We have an emerging market of rental bikes in Chicago, New York and other places.

NP: Denver. San Francisco.

KM: Exactly. In general, they've worked well.

NP: Let's talk about the Fed's leverage. Are you concerned about the unprecedented amount of assets that the Federal Reserve is carrying, about how this might unravel and cause another terrible recession?

KM: This is outside of my area. I'm more of a micro economist. John Cochran has some very strong views on this. If you ask me as an outsider looking in, I would say, "Chances are that we'll be able to work our way out of this." I would be worried about the worst-case scenarios. The theory is, now that we're willing to pay interest on reserves, we can get banks to hold onto those reserves. To me, you're still playing with fire.

We think we understand and we think we know how to control it, but thinking and knowing are two different things. And I'd be a little worried about it because if you just drew a chart of our leverage, we're off the charts, right? Relative to where we used to be we're in outer space. If you look at the Fed balance sheet, it's pretty scary. If you look at any quantitative measure of the money supply, it's like, Oh my god! It's enormous.

NP: There was an extended period post World War II when interest rates remained rock bottom...

While we worked off the debt. We're on that path of working off the debt. The traditional view is that as long as you stay on that trajectory and people have confidence that you can do it, you can do it. If people start thinking things are falling apart, they start falling apart even faster. The think part worries me a little bit.

For more Professor Kevin M. Murphy wisdom, stay plugged into his University of Chicago Booth School of Business web page.

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