Wage determinants II: Gender & Race

In my last post, I briefly looked at differences between average wage earnings between Males and Females for 2015. I use the Census Population Survey (CPS) for March 2015 . Again, the average annual wages between males and females is shown in the table below. On average males make $50,344 and females make $42,671.

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In this post we are first going to look at racial & gender differences in average annual wages.

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We first begin by looking at females among races. The table above shows that Nonwhite females in this sample on average make 82 cents compared to white females.

Now, let us look at the case of white males and nonwhite males.

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From the table above, we see roughly a 10% difference between white males and on white males. Nonwhite males earn $46,198 whereas white males earn $51,151.45.

All these average comparison tells a story about wage differentials. The most important thing to question is, does a person’s endowment plays a role in his/her earnings potential. Answering that question requires more empirical investigation. I can employ a multivariate regression analysis to try estimate a model of earnings. If you would like to learn the statistics behind it, click Here!

I construct two models.

Model 1: Is trying to estimate the average effect of Experience, and Experience Squared ON Wages.

Model 2= everything in Model 1 + Female, and Nonwhite ON Wages.

A brief summary of these variables would give you a better idea of what they represent.

  • Experience is basically ( Age – Education – 6), we assume that people are not working during education and everyone started school at age 6. So computing experience was suggested by the CPS.
  • Experience Squared is basically Experience x Experience. Why? Well, human capital theory suggests that experience diminishes. Meaning that after a certain point of years of experience the incremental gain from that experience is smaller than the previous. For example, after 35 years of experience you are probably going to get old and your skills and knowledge will become less significant and obsolete. The inclusion of experience squared is important. Since experience can not be forever linear. As the graph below shows. Experience has a nonlinear effect on wages.

Graph

  • Education is years of schooling. For example, 12 years = high school, 16 years= Bachelors, etc..
  • Females are just a binary variable that takes the value of 1 if female or 0 if male. For example, if an individual in the data is a female, the female variable will take the value of 1.
  • Nonwhite are also a binary variable that takes the value of 1 if nonwhite or 0 if white.

The table below is the output from the regression.

Picture1

Model 1: Education and Experience (Column 1)

  • 1 more year of experience increases wages by 3.53%
  • 1 more year of education increases wages by 10.9%

Model 2: Model 1+ Female and Nonwhite (Column 2)

  • 1 more year of experience increases wages by 3.43%
  • 1 more year of education increases wages by 11.3$
  • Being a female reduces wages by 20.8%
  • Being a nonwhite reduces wages by 7.47%

These findings suggest that there other factors that affect earnings other than the conventional Education and Experience. The implication here is serious, that genetic endowment at birth might play a significant role for determining wages. In other words, your productive capacity given by your education and experience is not enough to determine your wage. Other factors such as gender and race might have a substantial role.

 

 

 

 

 

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Wage Determinants I: Gender Wage Gap

 

In all forms and colors of societies, the pursuit of acquiring a job is a prominent one. Jobs are necessary in the limited time we have in this world. However, jobs are not all equal and it highly influences what kind of standard we can provide for ourselves and our loved ones. It is because of the wage that the job pays that determines your living standards. How much you are paid is a signal of the value society places on the skills/service you provide.

Little would argue against the fact that, education level and experience are the two most important factors that contribute to someones wage is , but does it stop there? Or are there other characteristics that influences wages as well?

In this post and future posts I will be looking at data from  from the census population survey (CPS) for March 2015 for the United States. Our interest here is trying to consider characteristics that can explain wage differentials. The reason this is important is because it is crucial to know whether characteristics that are endowed to us at birth might be detrimental to determining our wage.

We will be focusing this post by looking at averages, and I will emphasize why looking and comparing averages gives an unclear picture of reality. I will begin by providing some summary statistics for this sample.

Table 1.

Table1 BP

Table 1 tells us that the average hourly wage for our sample is $23/hour, the average age is 39, the average years of education is 13, and average experience is 27 years.

Table 2 (below) tell us more information about the sample. For example, there are 150,907*0.443= 66867 females and so on (Column 5). Column 5 displays how many people are in the data based on gender, race, marital status, the number of children under 18 a person has,  whether if someone is from the south or north, and whether he/she is a member of a union, and race.

Table 2.

TB3.jpg

 

For the purposes of this post we are going to examine Gender  wage differentials. We are interested to see whether being a female or male affects your earnings.

Table 3.

TB34.jpg.png.gif

If we look at the table above,  it seems that being a female is associated with a lower average hourly wage than that of a male. The female earns on average $21 where the male earns $25. In other words, females earn 0.84 cents for every $1 a male makes. But this is a broad statement, isn’t it ? Think about it! we are not really specifying anything about this sample. Could it be that  men are just more educated than females, and that is why they receive a higher wage? We need a more accurate look to start making statements. Let us consider the sample again but this time lets limit our search to males and females that hold Bachelor, Graduate, and High school degrees.

Let us start off with the examining the average wage between males and females at the bachelor degree level.

Table 4.

tb4.png

In table 4, we can see that females with bachelor degrees earn $27 compared to males with bachelor degrees who earn $33 . This is even worse than the average we first computed (table 3). For Bachelor degree holders  females earn 81 cents on the dollar compared to a male.

Let us continue by looking at the average wage between males and females at the Graduate level, (i.e. +18 years of schooling).  Table 5 below surprisingly displays output on the wage differential between males and females and finds that it shrinks at the masters and doctorate level.

Table 5.

tb5

The wage differential now is much smaller at this level of education when comparing between genders. Females earn 97 cents for every $1 a male earns.

Let us now look at High school educated males and females  (12 years of schooling). It is here where we find the largest wage gap .  Females earn 75 cents for every $1 a male earns at this level of education.

Table 6.

tb6

 

This is important to realize, first for policy makers and for people with false perception of reality and no data to back up their assumptions. Gender wage differential does exist, but it is highly dependable on many factors. As I have demonstrated it seems that among High school and Bachelor degree holders the female/male wage gap is largest and starts to get smaller as the level of education gets higher.

It is vital to mention that the magnitude of the gap is not very accurate. Since there are other unobserved characteristics that might be causing these numbers and this data and method (looking at averages) does not take these into consideration. For example, it does not take majors the types of different degrees pursued by either males and females into account. Nor does it consider whether females might be more inclined to attain certain jobs that might be causing a large supply of females in a specific labor market. These issues could potentially be behind  lower wages, regardless of having the same level of education.

Consider the graph below as an example. Many females find it satisfying working in educational institutions because the work time suits their preferences and their ability to work and finish before 3 pm,give or take, which allows them to   be home with their families. This preference is shared by many females and sometimes causes unintended market consequences.

If a large number of females have the same preferences in jobs  that have flexible hours. Then this causes a flood of females in that labor market. In the simple graphical representation (Figure 1.), we can imagine that a flood of females in a certain job can cause the wage rate to go down.

Figure 1.

Capture
A large influx of female labor in specific jobs causes the supply to increase (shift right Labor supply to (2)), and that under perfect market conditions should decrease the wage rate, (W1 to W2).

The implication here is not to say that gender wage discrimination does not exist, and that some other factors are causing a lower wage rate for females. What I am trying to portray is from a policy stand point,  it might be more ideal to create more jobs that are more favorable to women’s preferences, in the effort to induce females to disperse to a wider scope of jobs. Rather than enforce wage floors that goes against market forces. Because enforcing prices can cause unintended consequences, in one extreme a higher unemployment.

 

Saudi Population 2017: Pyramids & Employment

It is indisputable that Saudi faces problems when it comes to employment and Foreign workers. According to the General Authority for Statistics, Quarter 3 for 2016 the reported unemployment rate is 5.7%. But before we take that seriously, we need to first be clear on what does unemployment actually mean? it sounds trivial, but it’s not.

Unemployment is reported only for those who have been actively looking for work, in other words it only captures those, who for the past 4 weeks, have been actively seeking work.

Therefore, the unemployment rate becomes this limited view of what true unemployment is. This is not something that only Saudis do, most countries around the world report unemployment rate this way. Discouraged workers are not reported in the unemployment rate. The General Authority for Statistics reports roughly 10.6 million individuals outside the labor force 7.8 mil for Saudis and 2.7 mil for Non-Saudis. Around a third of the population is outside the labor force, this includes elderly and children. Therefore,  a population breakdown will be helpful in explaining some of this contrast.

 A population pyramid,  is a graphical illustration that shows the distribution of various age groups in a population(typically that of a country or region of the world), which forms the shape of a pyramid when the population is growing.

Now let us look at the population pyramid for Saudi’s in Saudi Arabia (below). I repeat this is only for Saudis. We can see that pyramid looks normal and growing, equally divided between Males and Females. Most of the population is concentrated at lower three age brackets, that is (0-4), (4-5), and (20-24).

Saudi Population 2017

We can say that Saudi is a young population, which also means that there will be a continuous rise for employment needs to satisfy a younger demographic.

This shape is usually considered normal for most growing countries, because it translates that there is a large, young, and able to work population. That can support the elderly in the form of retirement and pension programs. Problems occur for countries when they have a shrinking young population and growing elder population. In such a case, not enough taxes is being collected to support programs to sustain the elderly. This is not the case for Saudi, but check out the pyramid for Japan (Below Pyramid).

Japan population

Lets focus our attention to Saudi again, but this time on the Non-Saudi population pyramid below , it tells us something about the 12.1 million foreigners in Saudi. We see a completely different shape and dynamic of the population for Non-Saudis. Males are the largest population, and the concentration of age groups exists in ages (35-39) and (40-44). The Non-Saudi population is highly concentrated in the middle, which distorts the image of pyramid. Does this image have any implications for employment?

Saudi Population Non 2017

Well if you look closer, you will begin to realize that some of the concentration in age groups by foreigners exceeds that of Saudis. I mean look at the graph above, for the (35-39) age group for Males there is about 1.4 million foreigners, compared to 0.7 million Saudis in that age group, almost double.  The table below gives a clearer picture, it has three columns. The first is age groups, second is foreign population for every 1000 Saudis (males) and the third column is foreign population for every 1000 female Saudis.

They are computed as follows:
Pop2

Pop

The above computation above is to be interpreted as, for every 1000 Male Saudi’s in ages 0-4 there are approx. 259 Non-Saudis in that age group. I do this for all age groups and the table above are the numbers. Now after examining the table we see a red highlight for certain age groups. I do that because in these age groups Foreigner population exceeds Saudis. For example, for ages (40-44) there are 2041 Male foreigners for every 1000 Male Saudis in that age group, more than double.

Here is the total population pyramid for both Saudis and Non-Saudis.

Total Saudi Population

What does this mean? Well it means that Saudis face high competition now and in the future in the labor market. However, not only from themselves but also from foreigners. Ironically, it also means that Foreigners are more employed than Saudis in Saudi Arabia. As of Quarter 3 2016, there are approximately 5 million Saudis employed and 7 millions Non-Saudis employed.  In other words, for every 1000 Saudis employed there is 1,465 Non-Saudi’s employed in Saudi Arabia.

Saudi GDP II : Productivity & Capital Stock

In my last post I discussed Saudi’s simple GDP dynamics. Yet we did not discuss anything other than oil fluctuations and its relationship with growth rate of GDP and the importance of looking at growth rather than levels of GDP. Nor did we consider the important distinction between nominal and real GDP. Where real GDP is adjusted for inflation. In this post we do. We also make some adjustments to our GDP variable, looking closely at GDP per person to give us a clearer picture about the well-being of individuals. Below is the inflation adjusted gross domestic product for Saudi Arabia from 1970-2014.Rplot05.png

Factors of production

Playing around with more R and some data I provide some interesting visuals that asks important questions.  Before we do that, we need to refresh our memory about a certain element that constitutes the production process in a country. When talking about an economy’s output of goods and services, it is agreed that it depends on its quantity of inputs. These inputs are called the factors of production. An economy’s ability to turn these factors/inputs into output is represented by a production function.

The two most important inputs in production are capital and labor. Capital refers to the set of tools/machines/equipment that workers use, and Labor is the time people spend working. Another important element exists in the production process is the Total Factor Productivity (TFP). TFP is the portion of output that is not explained by the amount of input used in production. It determines how efficient inputs are utilized in production. The graphic below illustrates the process of converting inputs into outputs.

prod

Consider three economies, that have the same level of inputs 100 Labor and 100 Capital, but they differ in productivity. The table below shows how TFP plays a role on output. Country A has a TFP of 1 and correspondingly its output is 10,000. Country B has a TFP of 1.2, suggesting it can convert its inputs more effectively and can produce 2,000 more output than country A. Country C has a TFP of 1.6 and therefore is the most efficient country that yields the highest output.

prod2

Total Factor Productivity (TFP)

Now that we have a solid introduction to these factors let us consider again the Saudi case. Using the Federal Reserve data of St. Louis that acquired the TFP data on Saudi Arabia from the “Next generation of the Penn World tables” .(TFP is indexed to USA =1). We plot the Productivity level on the left, and Productivity change on the right, of Saudi Arabia against time (1970-2014).TFP

Now, let’s plot the productivity change on top of Real GDP change. Consider the graph below, we can see below that Real GDP moves close with productivity. The rough estimated correlation is 0.6.Rplot03

Plotting the GDP per person against TFP (Below). We see that as productivity goes up we expect to see higher GDP per person. In other words, the more productive Saudis are, the more incomes they will earn.RGDP Per capita with TFP

Capital Stock 

Let us shift our focus to another aspect of the production function, Capital stock for Saudi Arabia. The capital stock is simply the amount of capital stock in Saudi Arabia across time. Consider the left graph that depicts capital stock levels and right graph capital stock change.

Capital stockCapital stock has been increasing since the 70s with the similar story of the dip in the 80’s, that followed a continuous rise. Now let us examine how changes in capital stock goes with output or Real GDP. Below we plot real GDP per person against change in capital stock. We see a somewhat linear relationship; the estimated correlation coefficient is 0.62.new

These visuals tells us that our production function story is relatively true, that is increases in capital and productivity are associated with higher incomes for people. We will refrain from discussing the labor input for another post.

To conclude

Let us see how it all adds up together. Below we plot real GDP per person on top of TFP (left graph).We see that there has been a close association from 1971-2000: the correlation between TFP and Real GDP per person is 0.95 (1971-2000).

lastone

This association departs in 2000, we see that after 2000 productivity did not catch up with the rise in GDP. This tells us something about the structure of Saudi’s economy, which is a natural resource dependent country. We also plot to the right the change in capital stock on top of TFP, we see that up to 90’s there was a close association between changes in capital stock and TFP: from (1971-1990) the correlation coefficient  is 0.95. The departure of the associations entails an interesting story. Despite the rapid increase in capital stock, Saudi’s productivity has remained within [1.0-1.5] range. Whether that is normal standards or not we can clearly see that dynamics of production have changed.

 

 

SAUDI GDP: Using R visualization

There is an important distinction to be made when anyone examines Gross Domestic Product (GDP). Before we go deeper let’s clarify what it means. Gross domestic product is the monetary value of all the finished goods and services produced in a country in each year. It entails all private and public consumption, investments, adding exports and subtracting imports. Simple equation illustrates,

GDP = C + I + G + (EX-IM)

GDP is an important indicator of economic health of a country, used by many as proxy for standard of living. Is it the full picture? what about the pulse of the economy?

Note: arguments that relate how GDP does not capture standard of living is for another post.

I will consider the case for my country Saudi Arabia. The graph below shows the GDP level for Saudi Arabia across time (in millions), specifically 1970-2016.SAUDIGDP1970-2016

We see a rise from 1970 level compared with 2016 level, a large dip in the 80s, and a somewhat steady continuous rise. Consider now the growth rate of GDP. The growth rate of the economy is the percentage change of the GDP from one year to the next. Which explains how fast an economy is growing.

Gdp Growth 1960-2017.png

The graph above shows the growth rate of 46 years of Saudi Arabia. This graph does does not look as consistent as we thought it is by checking the first graph, when looking only at GDP level. Growth rate tells us a different story about the pulse of the economy, one that is far more interesting than the GDP level, where the only story is during the 80’s, which we can relate to in the growth picture. In that time frame Saudi’s GDP year on year declined by 20%.

Moreover, considering the case for Saudi we can see that it is far from being consistent or stable. However, if one would look at the level of GDP Saudi starting in 1970 compared to 2016 we can safely say that on average the growth rate for 46 years was 3.7%. Yet that is far from the truth now isn’t it.

Saudi GDP.png

As we know Saudi’s GDP stems from its oil production, then there must be a considerable effect from the oil price fluctuations. Oil prices are very volatile, check the two comparisons below. The left graph depicts the price of oil since 1986, where the right graph entails the change of oil prices year on year. We see that oil is very volatile across time.

Rplot03

Now let’s see how oil price fluctuations looks with Saudi GDP growth. Below we can see that there exists some sort of lag effect from oil prices on GDP. By lag I mean it might be that last year oil price change effects the following year in GDP growth.Oil GDP growth 86 vs Oil price change.png

There exists an intimate relationship between the change in oil price and GDP growth for Saudi Arabia. When one looks at GDP level we do not see the whole picture of the pulse of the economy. For a natural resource driven country we see plenty of volatility from its reliance on oil as main source of income. Yet we can conclude that in the long run (46 years) Saudi has grown on average 3.7% per annum.

Update* June 20th 2017

I acquired data that explains this relationship better. As the graph below shows, the Real GDP Growth of the Saudi Economy and Oil Sector growth. They exhibit a 0.77 correlation which indicates the intimacy mentioned previously.

Saudi RGDP growth and oil sectory growth.png

Understanding the Oil and Saudi Dilemma

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The Black Gold

Oil is undoubtedly the most important natural resource of the industrialized world, due to its vast functions for most technological, and manufacturing processes for many different sectors. Thus, its price plays a major role for most economies. Saudi Arabia, being blessed with such vast oil rich lands, accounted for 18.5% of total crude oil exports worldwide in 2014. It has been the most dominant player in the oil production market since the 1960’s; back then it co-created the organization of petroleum exporting countries (OPEC), a monopolistic cartel that united the five top oil producing countries –Iran, Iraq, Saudi Arabia, Kuwait, and Venezuela. OPEC exploited its power to control the market and gain supernormal profits by limiting overall supply. By 1973, OPEC has become a 12 country band accounting for two-thirds of the world’s oil production; and by 2010, 79.6% of the world’s oil reserves was under OPEC member nations. In 2014, oil came crashing down, (as figure above shows), from an overall increase in supply, with weak demand especially from the Asian markets. These  realities wreaked the oil market causing it to fall from a peak of $115 in mid 2014 to a mere $30 in 2016. This has led to financial turmoil for OPEC countries. Not only are less affluent OPEC members such as Venezuela hurt by the lower oil prices, but even rich Gulf States, including Saudi Arabia.

 

An Oil Party

Shale oil, oil found within rock fragments, was discovered in the 20th century and was seen as a gold mine of oil. However, the technologies needed to extract it was not available and was too costly when it was. In 2009, horizontal drilling, a drilling process in which the well is turned horizontally at depth, bundled with hydraulic fracturing, using pressurized water and liquids to break rock fragments to extract oil and gas, have become cost and operationally efficient to be used assuming oil levels remain above $45. This led to an ocean of investment into shale oil fields and created a new key and major player in the oil market.

 

EXCEL
Saudi(Orange-line) increased production, while oil prices(Blue-line) was plummeting.

Saudi fights back

For Saudi Arabia, oil accounted for roughly 80% of its exports and thus, the so called “Black Gold” source of revenue for the country, has turned from being its greatest feat to its greatest threat. Moreover, Saudi Arabia’s strategy towards declining oil prices have been surprising. Referring to the graph above, unlike most of the other countries, Saudi Arabia, extracts oil at a price of $8 in comparison to the world average of $40.This cost-advantage has allowed Saudi to boost production levels to further drive prices down to drive out competitors while maintaining minimal profits, however not enough to maintain a balanced budget. We can observe a simple decision tree in the chart below to better understand the decision behind the strategy.

Decision Tree Saudi
The best decision was  Saudi to not cut its production to yield                                              [Increase Price and Gain Market Share]

Is the Oil party over?

The amount of Shale Oil Rigs have decreased by 70% since 2014 but production of existing rigs have increased and thus overall, production capacity has not fallen significantly. However, R&D into oil fields have ceased to exist with many firms selling exploration lands at huge discounts. Moreover, Blackrock, the world’s largest asset management firm, has announced that if prices remain low in 2016, over 400 companies will declare bankruptcy and all other firms will have to take loans and lay off a large chunk of their workforce.  If oil companies default on their loans, banks get affected,  causing a domino effect throughout the economies of the world.

Competitors and the world have been enduring much more than Saudi and OPEC have expected. This has caused oil economies (OPEC) to use their foreign assets (figure below for Saudi’s NFA) to fund their budget deficits which for Saudi was at 15% in 2015. Other examples of large downfalls is the Russian Rubble depreciating by 70% since 2014 and Venezuela’s inflation reaching 140% in 2015.

SAUDI net foriegn assets

 

Time to diversify?

Oil-rich countries are battling to reform their countries, lowering oil dependency. Saudi Arabia is implementing policies under the new King to diversify the economy, and promote growth of the private sector. The Finance Minister Ibrahim Al Assaf stated on national television during an interview, that the ministry is willing to guarantee bank loans on small and mid-sized businesses, also known as SME’s. In response to a fearful market where banks might be hesitant to lend. By easing credit, young Saudi entrepreneurs will be able to start new businesses and grow current businesses at a faster rate than it normally would.

Furthermore, another initiative that Saudi is considering to implement is to privatize some of the government-owned entities, such as electric companies, airlines, and others. The most controversial privatization proposition, that created a thrill in markets, is the possibility that Saudi might initiate an IPO for Aramco, considered to be the most valuable company in the world, it aims to generate an excessive amount capital.

Saudi Arabia’s oil reign will definitely be marked in history as one of the major and most successful players in the oil market. However, times have changed as technological advances in clean, and renewable energy  develops, along with breakthrough in innovative oil extraction methods. Saudi Arabia must break the dependency on oil, and diversify its economy. To make it less susceptible to volatile oil prices, so it can preserve safety and stability for generations to come. 

Why is medicine expensive and should it be any different?

This post is a cooperation between two economics students, our guest of honor on this post, who raises the question of medicine is Bilal Abdul-Jawad, and yours truly. 

Pharmaceutical companies are profit-driven business that offers social benefits to the society (medicine) as well as private benefits for investors (profits). They operate like most other businesses by trying to exploit consumer surplus by acquiring monopolistic rights to make abnormal returns. They spend billions of dollars in research and development to make the highest quality of products, and protect their research by patenting the medicine they create, which prohibits acts of copying by competitors for products approximately 20 years. This grants pharmaceutical companies excessive market share power and monopolistic traits.

Also, the increasing role of government intervention in health care and the growth of insurance agencies have further led pharmaceutical companies to reach huge amount of profits at an even faster rate. Thus prompting medicine providers to take advantage of government and insurance companies obligations. The average patient could care less what the cost of his treatment would be if they knew they are covered. This brings us a bit off topic, nonetheless a matter to be pointed.

Pharmaceuticals research hundreds of different medicines but only a few make it to the market if not none at all and so that one product has to cover the costs, also known as fixed costs, of all failed research. Secondly, else than covering fixed costs, investors expect a specific rate of return to their investment and so revenues should cover costs and shareholder expectations (investors only goal is to maximize profit, not caring which industry it is in as long as it is legal).

An example would be if a company undertakes 10 different researches, each costing $100 million (total of $1 billion) and only one makes it to the market. This one medicine has to generate $1 billion to break-even, and then has to generate profits to invest in newer projects and to also be able to pay shareholders a decent return to not push them away. Lets say they aim to gain $2 billion in total, in 20 years time, that’s $100 million a year, say there are 1 million customers, then that’s $100 per customer regardless whether the medicine itself cost $1 to make or $50, this is how much needs to be charged.

Mon Vs Comp
Figure 1: P Competition represents operating at the price of costs with average returns. P monopolist is the price monopolies charge. (P monopolist – P competition) is the excess generated revenue they can make as they are the only providers of that product. The green box depicts the super profits a monopoly market can generate, the grey triangle is the (Dead weight loss), that the market suffers from a monopolist presence in the market.

This takes us to the big question, Why do pharmaceuticals operate this way?

Firstly, lets take a look back; economists agree that capitalistic ideals satisfy the needs of human nature, the need of greed, competition and power. Furthermore, incentives to invent are a must or else everyone would just lie around waiting for anyone else to do the hard work (free-rider effect). In our world, the most important incentive revolves around “making money”. Ask yourself this, if someone tells you go save the world, everyone would want to but just how much would you do, how much will you dedicate? Then ask yourself this, go save the world and I will give you a billion dollars; now by how much did your dedication amplify? The same goes for researching to create and help the world. Overall, we strive for a world that is rid of poverty and diseases but before we do so, selfish needs must be satisfied. In other words, philanthropy is much appreciated but is not and will never be enough to satisfy world demands; philanthropy is only achieved after selfish needs are satisfied. The only wealthy powers in an economy willing to help more than gaining returns is the government, which doesn’t have enough money to spend without generating from it and thus they are partially ruled out.

This takes us to our second big question, should these firms be run differently than firms in other sectors?

There is a growing debate over whether medicine should function like a business, guided, as businesses are, by concerns such as profits and customer satisfaction. Of course, for-profit businesses already permeate medicine, and those businesses are not confused about their priorities: providing high quality goods and services people want, at affordable prices. These companies know that they must do well in order to continue.

The pharmaceutical industry is heavily expected to not operate like any other business due to their social importance in maintaining human lives and quality. Expectations are one-sided though; people don’t realize that if these firms were not treated like those in other industries with high returns then why would investors, other than philanthropic acts, invest in them? Having high returns is also an incentive for competition to grow which causes a race to the top to become the most powerful and make the most returns. Without these factors, they would cease to exist…

Figure 2: This diagram shows the price needed for society, the price needed for fair-return pricing and the price monopolies charge. This is a theoretical approach as fair-return price is debated.
Figure 2: This diagram shows the price needed for society, the price needed for fair-return pricing and the price monopolies charge. This is a theoretical approach as fair-return price is debated.

It is true that regulating prices on a monopolist may in theory lower prices and produce at outputs seemingly more efficient. The absence of regulation or government intervention will further induce competitive barriers.

However, in the event that pharmaceutical industry would undergo any policy that would have to regulate its course of business other than first satisfying its investors we would probably see a shift of focus from quality control of products and innovation to political disputes, and cost obsessed industry, that would have negative impacts socially and privately. We would definitely see the rate of pharmaceutical innovation decline since such a field requires the brightest of minds and unprecedented patience, all the very costly indeed. Since fair return means that rate of return covers cost without having economic profits to satisfy investors, and socially optimal solution would only make government pay for the difference for operating at a loss. Governments would spend taxpayers’ money on creating medicine with high social returns but ideas and incentives would be lacking. Overall, it would reflect the cons of socialism, people would just do what they have to rather than be more efficient if no compensation is available. Also, governments cannot tackle all problems sufficiently at once as they are made of a group of people as well, whom are all imperfect. Some people might debate that some of the greatest inventions in many sectors were acts of brilliant people who did not expect large returns such as Einstein, Marie Curie and Max Planck, but then again, people like them still exist and do help the world for free but with the introduction of the private sectors, millions are added leading to overall better efficiency. The new Hepatitis-C cure names Sovaldi, cures Hep-C in 81 days and costs $81000. This is an insane amount, but looking at the world before this drug was invented, the average Hep-C patient would spend over $190,000 over the course of 35 years and never rid of it. Sovaldi, whilst momentarily expensive, yields results unavailable before at less than half the price.

 Private sector is needed but these explanations are not sufficient, so what should be done?

The biggest power there is on any firm is the government itself. Rather than providing 20-year patents that could, depending on product demand, yield profits way beyond what is deserved; governments could quantify the amount. An example would be that government force firms to lower prices to certain levels once profits reach a specific percentile. This weakens monopoly power and allows for further research in the field, increasing social rate of return.

OR?

We could think about these issues in a different spectrum or scope so to speak. This desperate search for solutions for rising health care costs concerns and all associated socioeconomic problems. Ponder on this, wouldn’t a huge portion of these problems be solved if people aren’t as sick and weak as they are now? Why can’t government invest in promoting good health,  provide healthy awareness campaigns, target future generations to aspire to be healthy and fit, and regulate food and beverages quality.