In this National Journal article, Congress is challenged on its ability to make informed decisions. We have recently just covered a section on information asymmetry that exists in the market place. Many examples provide solution in the form of government intervention to prevent market failures. However after reading this question, I am uncertain that the federal government (or any level of government really) can provide timely and effective intervention when their source of information comes from research that may be biased. According to the article, Congress significantly "gutted" its research staff in the 90's and are now swimming in the sea of information with a sail. The result may be the emergence of more internet-is-not-a-truck comments from the chairman of senate committee on commerce, science, and transportation. A more extensive overview of the report cited in the article can be found here.

We have learned asymmetry of information in the market usually leads to higher costs, I wonder what will be the cost when the people that are suppose to protect consumers from such failure are subject to the same blindfold. In the face of overwhelming information and little knowledge to navigate through them, are consumers at the mercy of special interest groups? 

Affordable Care Act (Obamacare)

I have been wondering about the facts of the Affordable Care Act (ACA) for some time now. As a result, I began to study the actual writing of the Act and different articles that are either in opposition or in support of Obamacare. I had heard many rumors. For example, I had heard the rumor that doctors would receive a salary cap as a result of the ACA. However, I found that this wasn't true after reading every word contained within the ACA.

Despite that I was able to debunk that rumor, some of my other concerns were confirmed. The biggest theme to this Act that has jumped out to me is that fact that it appears to be geared to help families within poverty limits and the middle class to be able to afford health insurance. For example, those who are between 100% and 400% of the poverty line could receive tax credits so that health insurance is more affordable. Also, more people will have increased access to Medicaid beginning in 2014. Just with these two examples, the demand for healthcare will greatly expand. Therefore, there will be a greater need for doctors, physicians, specialists, nurses, etc., to be employed in the healthcare industry. If there is no increase in the supply for employees of the healthcare industry, prices will rise and the ACA will actually hurt insurance companies because they will be the ones who are taking the biggest hit of the increased cost.

What I find interesting is that the writing of the ACA states in Title I that the market for insurance will be more competitive. I find it difficult to believe that the market for insurance will be more competitive while being less attractive as a result of increased costs due to the provisions of the ACA.

Let's Talk About Food Stamps

As we can see from this Huffington post article, food stamp usage is at a record high.  The article talks about how food costs are increasing, and that food banks are low on food.  This has lead more people to go to the government for help.

The comments at the bottom of the article were more interesting than the article in my opinion.  I have come to the conclusion that large companies, like Wal-Mart, do not want the government to slow down or stop their subsidies.  I have heard that Wal-Mart uses programs like food stamps to help subsidize their wages to their employees.  It is difficult to raise a family when making $8 an hour; however it is much easier to raise a family making $8 an hour when you are collecting food stamps and government healthcare.  

The question I would like to ask is, "Are these government subsidies helping or hurting?"  Some might think these programs help the families that receive them because Wal-Mart just doesn't pay enough.  I think that Wal-Mart doesn't pay enough because they don't have too.  The solution in my mind is to end the subsidies.  If we ended these government supported entitlement programs, Wal-Mart would be more likely to increase their wages because their employees would demand it.  As long as their employees are making do, they will not put as much pressure on their employers.  

It seems cold to want to take away food stamps.  Maybe the solution is not to completely end the program, but to make it a very temporary solution.  As long as we subsidize employees’ wages, they will be complacent.  If they are complacent, they will stay in a Wal-Mart job for 10+ years making $10 an hour and complain the whole time. 

Why are Shopping Carts Getting Bigger?

This article takes a look at several reasons for the increasing size of grocery carts.  There are a few theories that proved interesting.  The first theory discussed comes from the viewpoint of behavioral economics.  The theory is that by increasing the size of the grocery carts, stores are able to establish a consumption norm consistent with the size of the cart.  In other words, grocery stores are attempting to influence consumer consumption habits.  Another explanation is that as more women enter the labor market, fewer trips are being made to the grocery store.  This has the effect of increasing the number of items purchased in a single trip.  A third explanation is that they were always too small.

I tend to believe that the carts are larger to accommodate bulk purchase items.  As the article points out, superstores have a few advantages when it comes to bulk items.  They have lower costs because of favorable economies of scale.  They also have monopsony power when brokering deals with suppliers.  Stores like Costco and Sam’s Club have discovered that they are able to target price-sensitive customers by offering items in bulk.  Wal-Mart and other superstores have also found that bulk items are an effective means of implementing price discrimination.  By offering bulk items, stores are able to offer a lower price per unit in exchange for greater sales volume.  This allows them to charge two different prices for the same item.  Ultimately, by increasing cart sizes to accommodate bulk items, stores are more efficiently meeting their customers' needs.

Another Perspective on Unemployment

With the 2010 emergency unemployment benefit extension passed by Congress set to expire on December 29, 2012, plenty of folks are anxiously evaluating the US job market. The New York Times published an intriguing economist argument by Casey B. Mulligan concerning labor market contractions and their impact on the economy.

Mulligan begins by claiming that politicians, pundits and lay people alike tend to adopt a Keynesian view when trying to interpret the high ratio of unemployed to job openings, concluding that the unemployed are competing aggressively for a limited supply of jobs. Additionally, Mulligan acknowledges that any reduction in the labor demand from new employer taxes or healthcare costs would further motivate organizations to do with even less employees—again resulting in fewer job openings and more unemployed people.

Standard stuff right? Where this becomes interesting is when Mulligan claims that a reduction in labor supply in the form of additional subsidies for the unemployed has a similar effect on the job market. Arguing that with these subsidies (unemployment benefits and other aid) the unemployed will be more selective about the jobs they take, Mulligan hypothesizes that this is the reason behind the increasing amount of jobs available (in most states) yet the mostly static rates of unemployment.

Mulligan makes a few more interesting observations about economic drivers in this theory: 1) with more help available for people after layoffs, organizations do far less to avoid layoffs, and 2) subsidies for the unemployed make labor more expensive because the unemployed can be choosier about what jobs they take. This incentivizes employers to get by with fewer employees, thereby reducing the number of jobs they have available. 

A quick local application seems to lend credence to some of Mulligan’s observations. Average weekly unemployment benefits in Utah, as reported in May 2011, amount to $316. If we take a low-paying job—the classic example of flipping hamburgers at McDonald’s—we can compare the part-time wage in this position to the unemployment subsidiary.  GlassDoor statistics claim the average hourly pay rate for McDonald’s cashiers and crew members is $7.63 an hour. Working part-time (the most common job opening) at Mickey D’s then earns only somewhere between $152.60(20 hours) - $228.90 (30 hours) per week for employees—and those numbers represent gross pay, not net income.

Mulligan concludes by arguing that in this way a reduction in labor supply by itself or a reduction in labor demand by itself, or a combination of both can contract the job market and explain the high ratio of unemployed to job openings. 

I think that there is some merit in Mulligan’s perspective, merit born out of a very human condition. Most individuals choose an income level that best supports themselves, their family and their chosen lifestyle. The math seems simple, if I am already struggling to put food on the table and can bring in more money by remaining registered for unemployment benefits than by taking a low-paying job, it makes more sense for my family’s survival to stay on unemployment. To be perfectly honest, $316 a week is going to be tough to live on (and Utah ranks in the top ten states of the country for offering the highest unemployment benefits). Mulligan’s perspective is often used by the anti-welfare perspective to cite what is wrong with the system, but the very real financial struggle individuals in both unemployed and low-wage circumstances face must be acknowledged.

I enjoyed Mulligan’s perspective because it offers a more well-rounded economic view than simply suggesting that only demand—rather than labor supply—has caused recent labor market contractions. Likely both elements play a role in the US’s ongoing job crisis. In this way, we find ourselves in a “what came first, the chicken or egg?” cycle.

It will be most interesting to see what happens in 2013 if unemployment benefits do indeed expire, then we may gain more insight as we watch fluctuations in the job openings data. 

Is the National Debt that Big of a Problem?

Is the national debt that big of a problem? An article by John T. Harvey explains why it might not be as big as a problem as you think. Let me first start by stating that the current debt to GDP ratio is not the largest that the Unites States has ever experienced. The current debt to GDP ratio has slightly crept over the 100% mark but is still not as high as it was at the end of WWІІ which was around 120%. Having the debt to GDP ratio eclipse 100% is alarming because of how fast the ratio grew over the last decade but will it cause the U.S. government to go bankrupt? The answer is no.

You are probably frequently given the analogy between the government’s debt and a family’s debt to illustrate how bad the growing debt problem is. The problem with that analogy though is that those two things are not analogous. They are not comparable for a few reasons: the government has an infinite lifespan and can print its own money. That is why people and other countries are willing to lend to the U.S. at such low interest rates because they know it is a safe investment. Let me put it this way; if you could continually borrow money at 2% interest for an infinite lifetime and have the ability to print the money due, wouldn’t you run a deficit?

There are a few other fallacies that I would like to point out. Many compare the United States’ situation to Greece’s. This is another comparison that it not analogous for many reasons. One main reason is that Greece owes its money in a currency that it does not control. Once again, the U.S. can print its own money if it chooses.

One last fallacy that I would like to address is that China essentially owns the Unites States because of the huge amount of U.S. debt that China owns. Many Americans don’t know that much of the U.S. debt is actually held by the U.S. government. China owns around 30% of the debt which could be printed and paid if China wanted it. But keep in mind that China’s economy hugely relies on the U.S. to purchase their exports that their economy desperately relies on.

Before losing sleep about the national debt, remember that the United States does not even have close to the largest debt in the world. We do have one of the largest economies though.

Rapid Growth in N.D.

24/7 Wall St. recently ranked North Dakota as the #2 best managed state; this was, in part, due to their fast growing economy and low unemployment rate. Bruce Kennedy wrote an interesting article which highlights some of the growing pains experienced by Minot, a North Dakota city which has a 2.3% unemployment rate. Apparently, one business is so desperate for workers that they are willing to fly employees from Wisconsin and put them up in a motel (a 500 mile commute), just to staff their store. The town is so frantic to house out of state oil workers that some investors have converted a retirement home into a hotel, taking little time for renovation. The town's schools are stretched and construction on hotels, housing, restaurants, etc. have ramped up. However, this boom sounds reminiscent of historical coal towns, many of which have become ghost towns. The challenge then, for Minot, is how to appropriately grow the city without the oil companies there taking on the form of a watered down version of a monopsony. Put another way, how will the town remain viable if the oil wells dry up or a technological innovation causes the demand for oil to fall drastically? The article quotes a Mr. Jerry Chavez (CEO of Minot Area Development Corporation) who is making efforts to carefully plan zoning and establish "proper infrastructure." Mr. Chavez is counting on the arrival of young families and their subsequent demand for professional occupations such as doctors, nurses, teachers, lawyers, etc. to establish a strong foundation which could support their long term growth goals. It will be interesting to see if Minot can succeed where so many towns in West Virginia have failed.

Guns and Ammo

Ever since Obama has been re-elected demand for guns and ammunition has skyrocketed. Consumer fears that Obama will introduce more anti-gun legislation has caused people to start hoarding ammunition and guns. The article points out that when Obama was elected the first time demand for ammunition increased so much that manufacturers could not keep up with demand. This drove ammunition prices up. The same thing has happened again. Ammunition is scarce and gun manufacturer's increases in stock price have been in the double digits. Since November 6 Smith and Wesson's stock price has risen by over 16%. Ruger's has risen by an astonishing 32%!! The market seems to be overreacting to this trend and I expect stock prices to settle in the future.

Is Michigan's DNR Action a Reminder of FDR's AAA?

Michigan's Department of Natural Resources (DNR) recently issued an Invasive Species Order, or ISO. Some believe the ISO to include "heritage or "old world" breeds and open-range pigs" that are found on small farms. This order basically allows the DNR to kill the animals that don't conform to the standards set by Michigan's DNR. Some, who oppose this idea, see the order as a result of the Michigan Pork Producers Association's influence. Those who oppose the order are basically saying that the MPPA sees the small pig farmers as a threat to their business. By allowing the smaller farmers' pigs to be killed, the people, who are buying pig meat of any kind, will be forced to buy the meat produced by the large pig factories. However, if you take a look at this situation, the supply is going to be depleted somewhat if the pigs are killed. This decrease in supply could result in a short-run increase in price, which is what the larger pig farmers would love to see.

This is what happened during Franklin D. Roosevelt's term in office when the Agricultural Adjustment Act was passed. Livestock was killed off (and this was during hard economic times of the United States) to raise the price of livestock for the farmers. The end effect was intended to help the farmers economically, but what it actually did was cause consumers to find it difficult to buy meat for their families. Hopefully, we won't make the same mistake twice. 

Black Friday vs. Cyber Monday

Despite the US economy heading toward what has been labeled a "fiscal cliff" retailers are enjoying the seasonal spending from consumers. Retailers, like little kids, wait almost all year for the Christmas season. However, retailers now face growing competition for the highly valued Christmas season consumer splurging.  Cyber Monday is now gaining ground and market share on the retailer store's Black Friday.
According to PriceGrabber.com, Cyber Monday shoppers are estimated to increase by 4% this year to an overall high of 41%. The other blow to retail stores is that 58% of these consumers plan to shop more on Cyber Monday than on Black Friday. PriceGrabber.com claims that the increase in Cyber Monday shoppers can be attributed to free-shipping, special one-day only offers and other discounts. It also leaves one to wonder if the overall convenience of no lines, no sleepless nights and avoiding the swarms of irrational behaving people also play a role in the increase of Cyber Monday shoppers.
With little to no regulatory, or other type of barriers, in opening a retail store or starting a website to sell to consumers could this serve as an example of the effects of a perfectly competitive market? (With an assumption that the capital required is not a barrier). In order for a market to be in perfect competition five conditions must be met:
1- Homogeneity of Products - A consumer can easily find the same TV, or other item, at Wal-Mart, Best Buy or Amazon.com. Condition met.
2- Many Small Buyers - With the American public not being in the wholesale business and purchasing only enough items to meet their individual or family needs this condition appears to be satisfied.
3- Many Small Sellers -  Although retail giants such as Wal-Mart exist the idea behind this condition is that sellers are competing on a level playing field without the ability to charge higher prices, etc because they have a substantial market share. Keeping this in mind condition #3 also appears to have been met.
4- Free Entry and Exit - The regulations for opening a retail store or starting an online store are within reach of most people. There may be permits and licensing requirements but these are not the same as the regulations for starting a mining operation or utility company. Thus, giving no weight to capital requirements, condition #4 is met.
5- Symmetric Information - In this condition buyer and sellers alike must be privy to the market conditions; prices, substitutes, information, etc. With the internet and other technologies symmetric information also seems to exist.
While the considerations of the five conditions has been cursory it none the less has shown that the retail markets, whether physical or online, appear to be a perfectly competitive market. As far as consumers still spending while the nation appears to be heading off the fiscal deep end, this appears to be a result of carpe diem. People are willing to continue to live their lives until the effects of what ever lies ahead begins to impact them directly.

Black Friday - Positive and Negative Externality

With millions of people throughout the country out shopping on Black Friday, the deals offered by stores like Wal-Mart, Target, and many others is a positive externality to many smaller stores and restaurants.  Black Friday causes a large boost in traffic for restaurants and other stores located near malls and shopping centers.  It has also become a positive externality for UPS and FedEx as a large portion of the Black Friday deals are now offered online and cause an increase in shipments.

Although it is a positive externality for many stores and companies, for me it is more of a negative externality.  I have never been shopping on Black Friday, but every year I hate having to drive anywhere on this day because a 10-minute drive can turn into a 30-minute drive waiting in traffic because of all of the people out shopping. 

Black Friday Price Discrimination

    Black Friday is an exciting time for many shoppers.  For many shoppers, they finally have a chance to buy  items they have wanted all year.  In this Bloomberg article, shoppers had a chance to buy a 50” flat screen for $298.  The question then becomes why any retailer would sell so many items at such rock bottom prices.  As a manager of a retail store I can tell you that it is difficult to make a profit on Black Friday. 

    It all comes down to price discrimination.  Because of the craziness that is Black Friday, not all shoppers will even go out.  In the weeks leading up to Black Friday I often hear customers tell me that they are willing to pay a little bit more now, in order to avoid Black Friday.  This gives retailers an opportunity to price discriminate.  As we know, not all shoppers are willing to pay the same price for an item.  Because of this event, John Doe can have a similar TV as Jane Doe, but at a much different price, and both customers will be happy. 

    I personally would not want to camp out over Thanksgiving dinner just to save a few dollars, but I guess that’s why it’s price discrimination.  

Game Theory and the Fiscal Cliff

In this recent article by the Globe and Mail, writer Andrew Steele analyzes the upcoming Fiscal Cliff through the game theoretic perspective. The game is "chicken". Two players face off, each faces a pay-off matrix such that whoever backs down leads to a negative outcome, and mutual refusal to back down leads to a mutually undesired outcome. The players are the Democratic and the Republican party, and their refusals are over the policies to take to avoid a fiscal cliff.

Fiscal cliff is the popular term describing the budget problems that faces the United States as the year 2012 comes to an end, and the Budget Control Act of 2011 goes into effect. A series of tax cuts from the Bush years will expire, as new taxes for the national healthcare law starts, all the at the same time as the drastic spending cuts proposed by the 2011 Debt Ceiling settlement.

The article basically paints in the Republican into a corner between a rock and a hard place - either raises taxes on a few, or trigger taxes on everyone, a direct conflict with their campaign promise to not raise taxes. At the same time, President Obama has something of a dominant strategy, in this iteration of the game. He can either raise taxes on a few and cut spending, as the Democrats want, or raises taxes on everyone and blame the Republicans for their intransigence.

What's at stake here, is the U.S. economy of the next few years and the potential to dive into yet another recession if both sides refuse to compromise. However, the game, and subsequent strategies assume both players are rational...far from certainty given how dangerously entrenched the sides were in resolving the ceiling.

Bankruptcy Creates Positive and Negative Externalities

The announcement of bankruptcy being approved by the court in New York for the manufacturer of Twinkies, Ding Dongs and Wonder Bread will have both positive and negative externalities for many parties.  A negative externality arises when one party directly imposes a cost on others.  I believe that the 18,500 workers who will be laid off are experiencing a negative externality. However, the bankruptcy of the manufacture here in the United States will also have positive externalities to the sweet treat market.  Some of these externalities are found in the article “Despite US woes, Twinkies reign supremeon the Nile.”  These sweet treats are very popular in other regions of the world, including the region around the Arab Gulf. There are still factories in the Arab region that will continue to make the products.  A Mexican company Grupo Bimbo is looking to purchase the brand name because of its plans to expand into North American.  Both companies will experience increased sales.  These countries will have an advantage in lowering manufacturing costs.  Such as, the cost of sugar will be lower because it will not face tariffs that are in place here in the U.S.  It was a combination of externalities that influenced the closure of the manufacturing plant in the U.S.  

 

    

Game Theory, Hostess vs BCTWGMIU

Of late, it is hard to turn on the TV, Facebook, or participate in just about any other aspect of social communication without hearing about the bankruptcy of Hostess. While it seemed to be a sudden development (at least as far as the media is concerned) it was something that has been going on for years. In fact the recent developments were all being pursued by a new management team that was looking out for the well-being of the company, rather than their own good. 

As part of the deals between the unions and Hostess, the new CEO was offering quite a change. Several items included in the package, as offered by Hostess, included: 1) 25% ownership in Hostess, 2) a package of bonds to go to the employees valued at $100,000,000, 3) two seats on the board of directors. In exchange for these, the union had to agree to several terms, which included 1) cut pay to comparable levels found at other major bakeries, 2) offer new-hires 401(k) instead of pension plans, 3) cover some of their own expenses, i.e. insurance. Hostess made a generous offer, and in return, they get to continue business operations. The Teamsters union looked the deal over and thought it wise, agreeing to it as the best possible choice for its' members.

The Bakery, Confectionery, Tobacco Workers and Grain Millers International Union (BCTWGMIU) were advised to carefully consider the deal as offered by Hostess. To which they decided they would strike to prove a point, and remedy past wrongs inflicted by a management team that is no longer at Hostess and one that has been gone for almost a year. As we know from watching the news recently, the decision made by the BCTWGMIU was to take the $0,$0 option, rather than the option that would have meant continuing operations for Hostess and quite a deal for union employees. 

The upside to this story is that the consumer will come out the winner, no matter what happens to Hostess, BCTWGMIU, or anyone else involved with Hostess, because someone will get to purchase the Hostess brand and products to continue to manufacture and sell, since there is still a high demand for these products. And the game continues...

U.S. Is Number 1

China has recently announced that the U.S. is now its biggest export market with the European Union falling to second place. It is no secret that the United States has become heavily reliant on the goods and services that China produces, however, this may be an indication that we are not producing enough domestic goods and our consumption is getting out of control.

So far this year China has exported over $289 billion to the U.S. This number continues to grow every year and the U.S. needs to find other ways to support its insatiable consumption.

Environmental sustainability vs. economic growth

Steven Cohen writes, "One of the more persistent myths in our political dialogue is that we must tradeoff environmental sustainability and economic growth." He points out that U.S. environmental law only works to clean up or reduce pollution. Instead, greater focus is needed on sustainability measures which allow economic growth and resource reuse/conservation to grow hand in hand. Mr. Cohen further argues that this ideal is not impossible because, in reality, economic growth is dependant on high quality natural resources being available for both the short run and the long run.

In 2010, the U.S. Bureau of Labor Statistics began tracking "green jobs" (or jobs engaging in energy efficiency, recycling and reuse, advocating awareness through education or training, etc.), they found 3.1 million related jobs. Researchers from MIT interviewed global executives as part of a three year study on sustainability innovation and found that 68 percent of these companies, "increased their commitment to sustainability." 67 percent of respondents indicated that possessing a strategy for sustainability was, "necessary to be competitive."

I think Mr. Cohen is correct that environmental sustainability should not be political. Sustainability is not about public relations or pretty landscapes; but necessary for a global economy which encompasses seven billion people. I watched The Lorax movie with my kids the other day, I couldn't help but think how absurd it was for a growing small business to literally hack its way through available resources with absolutely no regard, or strategy, for long term growth.

The Most Sensible Tax of All

The authors of the article,  "The Most Sensible Tax of All" written by Yorum Bauman and Shi-Ling Hsu, speak of a tax in British Columbia that could make it more expensive to pollute. This tax is a carbon tax. The carbon tax is being used in British Colombia to lower CO2 emissions. The theory behind this tax is that paying a high price for these emissions will make it more effective to regulate the amount of pollution in the environment.

I acquiesce that a cap on CO2  emissions can be a good thing for the environment.  If the government were to set a cap on CO2 emissions, then the CO2 levels would drop and lessen the effects of global warming. The government would have to set goals that are lower than the previous year.  I also think that they will have to monitor those companies that emit CO2.  The companies that emit CO2  would need to have permits given by the government to release the CO2.  I strongly believe that the problem with these permits is the companies that have these permits could sell them to other companies.  With this cap and trade, the government would not be able to monitor all the companies that have the permits, therefore cheating has and will occur.   

However, politically friendly industries have gotten politicians to give them exceptions or free permits.  Unlike the cap and trade system for the sulfur dioxide emissions that has worked well for the coal-burning utilities where they are few and far between, they are already being monitored by the government.  According to my research, many economists feel that the cap and trade system is not the best way to reduce CO2 emissions.  They believe that a carbon tax on each ton of coal, gallon of gasoline, and barrel of oil, based on how much carbon it contains, is the best way to reduce CO2 emissions. 

In conclusion, I would like to say that I cannot disagree with the authors that it does not matter if you are a Republican, Democrat, conservative or a conservationist, we can make the British Colombian carbon tax into an American made one. 

 http://www.nytimes.com/2012/07/05/opinion/a-carbon-tax-sensible-for-all.html

Price discrimination and textbooks

Supap Kirtsaeng was a graduate student that made around $900,000 in revenue by purchasing textbooks at discounted prices in Thailand and selling them in the United States for a profit.  He was sued and now the Supreme Court is facing the decision whether to allow importation of textbooks from countries where they are sold at significantly lower prices than the United States.  Some might think the price of textbooks would drop if the court rules in favor of Kirtsaeng, but one author describes why textbooks will continue to be expensive regardless of the Supreme Court's decision.  Her argument involves the issue of price discrimination.  In the United States, we are willing to pay a higher price than students in other countries so we get charged a higher amount.  If the prices were lowered here, then they would need to be raised in other countries and sells would drop. 

I have always been frustrated by the amount I spend for textbooks, but prior to this class I never realized that it was due to price discrimination. As students we know that we need to purchase the textbooks in order to perform well in a class so we pay the price no matter how outrageous it may be.  I have usually tried to shop around for the best prices when purchasing textbooks, but this article encouraged me to be even more price-sensitive and do all that I can to find the best possible deal. 

Are Patent Laws Stifling Innovation?

In their articles, Posner and Becker discuss the current patent situation in America.  Patents exist as a way of ensuring that the inventor of a product has sufficient ability to profit from their investment in the product.  Posner makes the argument that as the difference between the cost to invent and the cost to copy becomes greater, patent protection becomes increasingly more necessary.  He uses the example of pharmaceutical drugs.  Due to extreme R&D costs and the relatively low cost of copying a new drug, pharmaceuticals require a greater degree of patent protection.  Patents assist in creating a necessary monopoly power for the inventor.  Without this protection, there would be very little incentive to develop new medications.

Both Becker and Posner agree that the area of patent law that has become excessive is the software industry.  Increasingly, companies have been filing patents for software code in the hopes of coercing other companies into licensing their software.  When licensing offers are rejected, the patent holders then seek damages for patent infringement through expensive legal action.  For example, Microsoft has made more money from licensing deals for Android phones than from their own Windows Phone line.  The difference between the cost of development of software code and the cost to copy it is very low.  This difference signifies that the need for patent protection is very minimal.

Usually, prior art has been a useful tool in invalidating patents that should not have been granted; however, due to the rapid changes in technology and generally uninformed patent officials, many companies have been awarded patents that give them an unnecessary edge over their competitors.  Companies are being awarded patents for rectangles with rounded corners.  Posner argues that when patent protection is excessive, the market prices increase to levels that are inefficient.  This also has the effect of decreasing the efficiency of resource allocation. When taken as a whole, this has the effect of stifling innovation and creating unnecessary barriers to entry.