The Argentine Inflation Problem

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In the final week of 2017, Argentina’s Merval index, the most important index of Argentina’s stock exchange, hit the 30,000 point mark for the first time in history, surging 77 percent in 2017 alone. Economic growth within Argentina appears to be strengthening, and the Organization for Economic Cooperation and Development (OECD) is optimistic that Argentina will continue to experience growth in its agriculture, manufacturing, retail and construction sectors in the near future. All of this is welcome news, both for Argentina’s president, Mauricio Macri, and for the people of Argentina, as the country appears to be emerging from recession. Yet despite this welcome news, the Argentinian economy remains beleaguered by one particularly insidious force: high inflation.

According to Argentine daily newspaper La Nación, Argentina had the second highest rate of inflation in the entirety of Latin America in 2017, ending the year with an inflation rate of 24.8 percent. The only Latin American country with an inflation rate higher than that of Argentina was the catastrophic Venezuela, which experienced an inflation rate of 2,616 percent in 2017. Argentina’s high inflation rate has plagued the country, leading to the deterioration of the Argentine peso vis-à-vis other currencies while causing prices to soar, and must be brought under control if Argentina and its industries are to succeed on a global scale.

High inflation wreaks havoc on economies via a rapid rise in prices, the erosion of the purchasing power of an individual’s income, and the deterioration of the value of an individual’s savings. An extremely high rate of inflation (a rate of 1,000 percent or more) is known as a hyperinflation, which cripples economies and can be very difficult to recover from. Zimbabwe’s inflation rate, for example, hit 500 billion percent in 2008, marking the worst hyperinflation event in global history. When billions, even trillions, of Zimbabwe dollars became less valuable than the paper they were printed on, the country was forced to give up its national currency. Today, Zimbabweans conduct transactions using foreign currencies such as the U.S. dollar, the British pound and the Indian rupee.

Argentina’s inflation woes stretch back decades. In the mid-1970s, Argentina’s inflation rate shot up and averaged 300 percent per year for the next 15 years. In 1989, the inflation rate in Argentina hit a whopping 3,079 percent. In an attempt to cure the hyperinflation of the late 1980s, Argentina introduced a currency board in 1991, under which the peso was pegged one-to-one with the U.S. dollar. In other words, as the dollar appreciated and depreciated in relation to other currencies, the value of the peso would move with it. For a short period of time, the currency board was successful and tamed Argentina’s high inflation levels. However, over the course of the 1990s, as the dollar appreciated, Argentina’s currency board became overvalued, harming the country’s competitiveness globally and plunging the country into recession. With the collapse of the dollar peg also came elevated inflation, and the currency board was abandoned in 2001.

Inflation dropped to 10 percent in 2003, but it began to rise again during the presidential administrations of Nestor Kirchner and his wife and successor, Cristina Fernández de Kirchner. Yet as the inflation rate became worse and worse, Argentina’s government chose to deny it: when told in 2012 that the inflation rate in Argentina was 27 percent, Ms. Kirchner scoffed. “If it were as high as they say it is,” the then-president retorted, “the country would explode.” During Cristina Kirchner’s presidency, INDEC, the government statistical office in Argentina, began producing doctored inflation statistics that grossly underestimated the true inflation rate and nearly destroyed the country’s relationship with the International Monetary Fund. The Economist stopped printing the inflation statistics published by INDEC in its weekly issues.

Persistent high inflation has pushed up market interest rates, forcing Argentina’s government to pay an interest rate of around 25 percent to borrow in pesos. It has also destroyed Argentina’s mortgage market, forcing many Argentinians to pay upfront (and often in dollars, given the peso’s volatility), in addition to diminishing private sector lending overall by causing interest rates to skyrocket. Across low and middle-income economies, private sector lending constituted around 97 percent of GDP in 2016, and in Latin America, that number was approximately 49 percent. In Argentina, private sector lending constituted a mere 14 percent of GDP in 2016, giving Argentina one of the lowest rates in the entire world. This rate is on par with rates seen in deeply impoverished countries, such as Zimbabwe (12 percent) and Haiti (18.3 percent).

Confidence in the Argentine peso faltered, and over the next few years, it dramatically dropped in value vis-à-vis the dollar. Argentinians dumped the pesos they had and poured their wealth into U.S. dollars before their savings would wither away any further – a practice that soon became largely illegal. President Cristina Kirchner instituted currency controls that made it nearly impossible for Argentinians to purchase dollar assets. These currency controls had the unintended consequence of making Argentinians poorer compared to savers in other countries, as they were being forced to invest in an asset that was rapidly losing value. Upon the implementation of the currency controls, a black market for U.S. dollars quickly emerged in Argentina. Known as the “blue market,” it enabled Argentinians to purchase dollars against the law, albeit at exorbitant prices. In Buenos Aires, cuevas, or caves, popped up across the city to facilitate dollar purchases, and even the smallest cuevas would handle $50,000 to $75,000 in transactions per day.

When Mauricio Macri was elected president in November of 2015, he soon embarked on a variety of much needed, albeit painful, reforms to rehabilitate the Argentine economy. The former mayor of Buenos Aires quickly restored the independence of INDEC, charging the agency with creating a new and accurate inflation rate. While the move restored credibility to INDEC (The Economist began to publish INDEC’s inflation statistics again in 2017), it revealed how uncomfortably high Argentina’s inflation rate actually was. Under President Cristina Kirchner, inflation in Argentina averaged around 10 percent per year according to INDEC. Upon the election of Mauricio Macri, INDEC found that number to be closer to 25 percent.

President Macri also ended the Kirchner-era currency controls, once again allowing the peso to float freely. While this allowed Argentinians to invest in more stable assets and freed Argentina’s exporters from the burden of an overvalued peso, it also caused the value of the peso to decline further, and pushed inflation up to 40 percent in 2016. The day that the end to the currency controls was announced, the Argentine peso fell by 29 percent against the dollar

President Macri’s economic reforms initially eroded his popularity, and by metaphorically “biting the bullet” and pushing through the economic reforms that Argentina desperately needed, President Macri put himself and his party at great political risk. In 2017, however, Argentina’s fortunes began to turn around. In July, the Argentine economy expanded by 4.9 percent, and salaries began to rise. Furthermore, business confidence rose, the percentage of Argentinians living under the poverty line fell, and inflation began to fall as well. President Macri and his “Let’s Change” coalition experienced a much-needed popularity boost as well, with the coalition winning 41 percent of the vote in Argentina’s October 2017 midterm elections. This electoral mandate encouraged the president to go ahead with work on reforming the tax code and reducing Argentina’s budget deficit.
Overall, Argentina’s prospects are looking up. Argentina’s stock market had a banner year in 2017, and on February 20, Forbes published an article titled “Is Argentina The New Darling Of Emerging Markets?” Yet persistent high inflation threatens to derail Argentina’s economic recovery. The sooner its inflation rate can be brought back to a low, stable and predictable level, the better.

Will Trump Tariff Solar Panels at the Cost of American Service Jobs?

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One of President Trump’s main promises on the campaign trail was to crack down on free trade in the name of protecting American businesses, particularly the manufacturing sector. Despite the charged rhetoric during his campaign, President Trump has been a relatively traditional Republican when it comes to trade policy, outside of withdrawing from the Trans-Pacific Partnership (TPP). Last month, however, the Trump administration announced the imposition of new tariffs on imported solar panels and washing machines, a move designed to protect domestic manufacturers against a market flooded with cheap foreign goods, mainly from Asia. The tariffs on solar panels, which start at 30 percent and decline by 5 percent each year until 2021, have particularly profound implications for the expanding market of solar panels and solar energy.

As the cost of producing and installing photovoltaic solar cells has fallen drastically, the market for solar energy has grown rapidly, transforming the idea of widespread adoption of solar energy from an environmentalist’s pipe dream to a practical source of power. According to Bloomberg’s New Energy Finance Team, the price of solar energy has fallen from $350 per megawatt hour in 2009 to about $100 in 2018, with some projections estimating that average solar costs will fall below those of coal in the next decade. The International Energy Agency reported that 2016 saw solar grow faster than any other source of energy, with most of the activity coming from China, whose governmental support has enabled its producers to capture almost half of the entire market.

In many ways, China is on the forefront of the solar energy boom; the country alone added more solar capacity this past year than the total energy capacity of Germany and is responsible for driving much of the innovation that has caused the price of solar energy to fall so drastically. However, Chinese dominance in the solar sector has not been a blessing to American manufacturers struggling to compete with low-cost Chinese panels. Two companies, Suniva and SolarWorld Americas, complained to the White House and the International Trade Commission that they could not compete with the cheap photovoltaic cells imported from China without government intervention to “restore fair competition in the U.S. market.”

The complaints made by Suniva and SolarWorld are not unfounded. Suniva, a Chinese-owned company based in Georgia, filed for Chapter 11 bankruptcy last spring as a direct result of the influx of foreign panels. The International Trade Commission recommended a tariff of 35 percent on imported solar panels, and the Trump administration delivered with last month’s decision. Domestic producers of solar cells, such as Suniva, SolarWorld, First Solar and Tesla, stand to win as they will be able to sell their panels tariff-free and face less competition from their Chinese rivals. The possible benefits that these firms may receive from the tariff were reflected in their stock prices, as both SolarWorld AG’s and First Solar’s stock prices jumped shortly after the decision was made public. There is also no doubt that the creditors of struggling U.S. solar manufacturing firms have a positive view of the tariff, as the value of their investments will appreciate as a result. As far the U.S. solar manufacturing sector is concerned, the tariff does what it is supposed to do.

Proponents of the tariff overlook one crucial fact about the solar industry in America: the vast majority of jobs in the solar industry are not in manufacturing. In 2016, there were about 260,000 people employed in the solar industry (twice that of coal), but only 38,000 of those jobs were in manufacturing (14 percent) and only 2,000 were involved in the direct production of solar cells. Most of the jobs in solar are involved in the development and installation of residential and utility-level solar projects. The Bureau of Labor projects growth of 105 percent in the number of solar installers in the next 10 years, which would make it one of the fastest growing occupations in the country. The tariff will restrict the supply of panels available in the United States and thus raise their prices; in turn, higher panel prices will lead to fewer installations, forcing layoffs. The Solar Energy Industries Association estimates that as many as 23,000 jobs could be lost as a result of the tariff, and Green Tech Media estimates that the tariff could reduce solar installations by as much as 11 percent, setting the United States back in the adoption of clean energy. While some proponents of the tariff may point to the fact that Chinese companies like Jinko Solar have announced plans to build factories in America, the relatively few jobs that these highly automated factories would produce likely wouldn’t make up for the loss of jobs caused by the tariff itself.

Considering the net job loss that will result from this trade decision, it is hard to justify the implementation of the tariff. This decision seems to not result from economic analysis alone, but rather from a desire to maintain congruence between campaign trail rhetoric and public policy. President Trump promised to bring manufacturing jobs back to the United States, and this tariff might do just that – albeit relatively few. The fact that the tariff might slow the adoption of solar energy and bolster other forms of energy may also be a deliberate strategy to play to his base of support. “America First” intentions aside, the tariff’s economic ramifications will harm the livelihoods of many Americans, which should be the preeminent consideration on any policymaker’s mind.     

    

The Uneven Costs of Raising the Federal Minimum Wage

Is what’s fair for a Californian feasible for an Alabaman?

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In major cities like Los Angeles and Chicago, local hourly minimum wage levels have reached $12.00 and $11.00, respectively. They depart drastically from the minimum wage levels set by the federal government, which have stagnated since the $0.70 increase to $7.25 in 2009. The minimum wage discussion has become a hot-button political issue, with Republicans arguing that national wage increases would be destructive to the American economy and should be decided at the state level. Democrats have taken a strikingly different opinion, pushing for $15.00 federal minimum wage, which would increase the current federal minimum by over 50 percent. Those two stances don’t seem reconcilable, but in trying to find a solution, should we choose to focus on politics or economics?

In economic terms, the minimum wage is defined as the lowest legal hourly wage an employer must pay his employee. Classic microeconomic theory states that equilibrium wage will be determined where the workers’ demand and supply intersect. A minimum wage is most influential as a price floor above the equilibrium wage, but it is most efficient when it coincides with this market-determined wage, allowing worker supply to best meet worker demand and subsequently minimizing unemployment levels. However when rapid, non-market induced changes in minimum wage are forced by the government, there can and will be significant economic consequences.

Professor Alan B. Krueger of Princeton University argues that dramatic federal wage increases such as to $15 would be “counterproductive,” putting our economy into “unchartered waters.” Due to sparse and incremental federal minimum wage raises the throughout the 2000s, economists cannot gauge the consequences of an increase to $15 with certainty. A higher unemployment rate is one possible effect, and we should not downplay the possibility of other long-term economic costs.

In response to the federal government’s reluctance to increase the minimum wage, state governments have taken on the responsibility, resulting in wage levels more likely to help low-wage workers than hurt them. When high wages are implemented in economies that cannot support them, low-wage workers face the consequences of reduced hours and substantial layoffs to make up for lost profits. Specifically, we are seeing effects of such increases in cities like Seattle, where newly implemented wage legislation has already demonstrated negative economic consequences for workers. University of Washington Economics Professor Mark Long states that due to drastic wage increases in Seattle “the net amount paid to low-wage workers declined instead of increased.” More dramatically, an increased minimum wage can catalyze automation in some sectors, with the potential to replace low-wage workers jobs. Gradual increases that allow for economic price adjustments to occur at the state level will buffer the negative effects of wage hikes and better protect low-wage workers’ jobs. Additionally, federal wage levels may not be able to properly compensate for purchasing power differences amongst states. In cities like Los Angeles where cost of living is considerably higher than in cities such as Des Moines, nationwide wage increases would not be the most effective way to take account for these variations in purchasing power.

The federal government can intervene in ways other than wage increases to help low-wage workers. Programs like the Earned Income Tax Credit (EITC) provide low-wage workers with a refundable tax credit, benefitting working class families with children who receive a larger credit than other workers. Economist Michael R. Strain writes, “earnings subsidies like the Earned Income Tax Credit makes sure the dollars we redistribute find their way to the working poor by explicitly targeting low-income households.” In 2013, EITC tax credits alone were able to lift 9.4 million Americans out of poverty. By incentivizing employment and complementing earnings, expanding programs like the EITC would help low-wage workers keep their jobs and remove wage pressure on businesses.

When we look at the minimum wage debate through an economic perspective the answer is clear: a minimum wage increase at the federal level could do much more harm than good to low-wage workers. State governments should oversee the minimum wage because they are better equipped to assess how the economic tradeoffs involved would affect their specific constituencies. Lawmakers must carefully evaluate how wage increases would impact the population of low-wage workers in their states and adjust them accordingly. By moderately increasing wages at the state level and supporting federal pushes for programs like the EITC, profits of low-wage workers can be maximized and economic costs can be minimized.

Renegotiating NAFTA May Harm College-Educated African Americans

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Introduction

A key promise of Donald Trump’s presidential campaign – the renegotiation of the North American Free Trade Agreement (NAFTA) – is well under way, with a fifth round of trilateral talks held last month. It is no secret that President Trump has been highly critical of the trade deal, as he has taken to Twitter to slam Canada and Mexico for being “difficult” during the negotiations and suggested that his administration will “probably end up terminating NAFTA at some point.”

Proponents of free trade assert that it leads to cheaper foreign goods, additional income in the pockets of consumers, and an increase in overall economic well-being. In fact, economists tend to favor the concept of trade liberalization, with a 2007 survey finding that 83 percent of members of the American Economic Association agreed with the notion that the United States should eliminate its remaining trade barriers. Despite such a widespread consensus among economists, the American public remains divided on the virtues of free trade: a recent survey from the Pew Research Center found that 52 percent of Americans believe that free trade agreements are good for the United States, with 40 percent disagreeing.

This article investigates the differential labor-market effects of NAFTA by linking the wages, industries and geographic locations of impacted workers to changes in tariffs induced by trade liberalization. I find that African American workers experience drastic effects due to trade liberalization, while there is little evidence of a differential impact for Native American workers. In my main regression specification, individual characteristics including age, race, marital status, ability to speak English, educational attainment, worker industry tariffs and Mexican comparative advantage account for about a quarter of the variation in wage levels. Furthermore, I find that trade liberalization has stronger negative effects for less-educated workers, who tend to be employed in industries with higher initial, pre-NAFTA tariffs.

Background

As a general matter, there are deep distinctions in economic security among white, Hispanic and African American families: on average, white families have approximately ten times the wealth of Hispanic families and 13 times the wealth of African American families. Additionally, research by Amitabh Chandra finds very slow rates of wage convergence between white and African American male workers from 1950 to 1990, with African American male workers earning approximately 75 percent of what their white counterparts do, when excluding non-workers. Such large racial discrepancies in earnings introduce the possibility of endogeneity when attempting to quantify the labor-market effects of NAFTA; in other words, it is difficult to disentangle the effects of NAFTA attributable to race from the effects of other underlying factors that also influence wages. Therefore, it is important to take any prima facie relationship between race and NAFTA with a grain of salt.

Economists John McLaren and Shushanik Hakobyan have explored the local labor-market effects of NAFTA, finding evidence of substantially lower wage growth among low-education workers in areas most vulnerable to trade liberalization. Moreover, they find evidence of a “multiplier effect,” with liberalization putting significant downward pressure on wages across all industries in NAFTA-vulnerable regions. Finally, in their seminal 2013 paper, David Autor, David Dorn and Gordon Hanson find significant evidence of downward pressure on American workers’ wages as the share of Chinese imports increased.

Data and Methodology

The dataset used in my analysis incorporates publicly available U.S. Census information from 1990 and 2000, maintained through the IPUMS project of the Minnesota Population Center. The U.S. Census divides the country into 543 similarly-sized, overlapping regions determined primarily through economic integration called Consistent Public Use Microdata Areas (ConsPUMAs). The U.S. Census also defines 89 traded-goods industries. Table 1 includes summary statistics for the sample workforce for 1990 and 2000.

Table1

While most of the above measurables are fairly stable over time, there are some differences to note. First, the workforce was more diverse in 2000 than it was in 1990, as the proportion of the country identifying as “white” dropped by approximately 5.3 percentage points. Second, there is a perceptible difference in educational attainment levels, with a slightly larger proportion of workers having a college degree in 2000.

For each industry, I designated τ to be the average tariff that the United States levies on Mexican imports in that industry, similar to McLaren and Hakobyan’s convention. However, since vulnerability to NAFTA is only important if Mexico has a comparative advantage in the production of a particular good, I use a weighted-average tariff for each ConsPUMA that incorporates Mexico’s revealed comparative advantage (i.e., the share of Mexico’s world exports of a particular good relative to the share of Mexico’s world exports across all goods). The change in the weighted-average tariff from 1990 to 2000 for each ConsPUMA c is given by locΔτc.

For the purposes of estimation, I use what is known as the LASSO, or least absolute shrinkage and selection operator, to penalize the inclusion of additional, irrelevant variables to my model. The following is the preliminary model specification, prior to LASSO feature selection:

Model

The dependent variable in the model, log(wi), is the natural logarithm of worker i’s wages in 2000. The independent variables include educ, which measures the maximum educational attainment of each worker; border, which applies to those geographical areas along the border between the United States and Mexico; and X, a set of personal characteristics intrinsic to worker i, such as sex, race, age, marital status and ability to speak English. The two other independent variables, minwage and chnm, represent the state-level minimum wage and the employment-adjusted share of Chinese imports in the worker’s industry, respectively. In my analysis, the parameters of interest are β4 and β5, which measure the geographical impact of NAFTA on wages, disaggregated by race.

Results

The results of my analysis are included in Table 2. I find that African American workers with a college education likely benefited from trade liberalization resulting from NAFTA. This may be due to higher-than-average growth in the proportion of African Americans with a college degree relative to the rest of the workforce between 1990 and 2000. Additionally, college-educated African Americans were typically employed in industries that had fewer trade protections, and thus saw tariffs decline by less on average. This is an important point because industries that are less protected are more likely to benefit from economic integration and a higher demand for exports. Hence, in these industries one would expect less outsourcing of labor to low-wage countries, ultimately benefiting the worker.

I also find that NAFTA had a roughly uniform effect on Native American workers, as there is no statistically significant evidence of a slope change, which indicates that the effects of NAFTA on Native American workers are independent of other factors like educational attainment or industry-specific tariff reductions. This likely reflects the fact that college-educated Native American workers are more prevalent in higher-protected industries that saw larger declines in tariffs, on average. When coupled with the negative wage shock for Native Americans, the result is likely a mixed, insignificant effect of NAFTA on the wages of Native American workers. Furthermore, I conclude that the change in the share of Chinese imports in a worker’s industry, while indeed placing downward pressure on a worker’s wages, has effects that are separate and distinguishable from those caused by NAFTA’s trade liberalization.

Table2

Conclusion

From my findings, I conclude that while trade liberalization had no significant impact on the wages of Native American workers, college-educated African American workers greatly benefited from trade liberalization policies resulting from NAFTA. This likely results from the fact that college-educated workers are concentrated in industries that are less protected from Mexican competition, giving employers little incentive to outsource their jobs. However, the wage growth seen by African American workers who did benefit from NAFTA was slower than that of their white counterparts – further evidence of the persistent wage gap between white and African American workers in the United States.

Moreover, my findings suggest that President Trump’s desire to renegotiate NAFTA may reverse key gains made among urban, college-educated African Americans while failing to actually bring back blue-collar manufacturing jobs. In addition, while it may be the case that trade liberalization depressed wages for less-educated workers, American workers – including racial minorities – are becoming more educated. Thus, free, unrestricted access to Canadian and Mexican markets for professional services may benefit minorities with higher levels of educational attainment and help narrow the massive income disparity between racial groups in this country.

No Grounds to Stand On: Analyzing the Case Against Lil’ Bill

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The video was all over Facebook, trailed by hundreds of angry comments from USC students. The reason? “I’ve been asked to leave the campus,” says Aaron Flournoy in the clip. “It’s like an eviction so to speak.”

The word “eviction” glares in bright gold from its subtitle on the screen, as if daring someone to object to its usage. First covered by Annenberg Media on March 31 by Cole Sullivan, the story of Lil’ Bill’s Bike Shop has frequently been spun as an economic injustice, for reasons that have little economic justification.

Lil’ Bill was being “evicted” from campus, because Solé Bicycles was becoming a vendor for USC Village. Solé and the university had agreed to sign a non-compete clause, preventing USC from allowing a competitor like Lil’ Bill to sell bikes on campus with a business move that has been virtually banned from California, except in three circumstances:  

  1. When one business acquires another
  2. When a partnership is dissolved
  3. Limited Liability Companies (LLCs)

USC isn’t acquiring Solé. The two had no preexisting partnership, and are not involved in an LLC, so none of the three circumstances apply. Has Lil’ Bill been illegally targeted?

When asked to elaborate on the specifics of the non-compete in an email exchange, David Donovan, Associate Director of USC Transportation, who has previously addressed media inquiries regarding the Village, declined to respond. Even so, studying the case history of non-competes in California may offer an answer.

An exception to California’s strict criteria for non-competes emerged in Campbell v. Board of Trustees of Leland Stanford Junior Univ., 817 F.2d 499 (9th Cir.1987), where the court ruled against Stanford’s contract preventing a professor from reproducing a psychological test he developed. Campbell states that contracts “where one is barred from pursuing only a small or limited part of the business, trade or profession” are valid, and that the burden of proving whether a contract fully bars business is up to the plaintiff.

This statement became known as the “narrow-restraint” clause, and has since been applied to several other cases. It might be Solé’s justification behind implementing a non-compete clause, which would not fully bar Lil’ Bill from his profession of fixing bicycles. In fact, in Boughton v. Socony Mobil Oil Co., the Ninth Circuit upheld the narrow-restraint clause to allow a non-compete that prevented the use of land for a competitor’s business, rather than prevent the competitor from carrying out business.

The only problem? In 2008, the California Supreme Court overturned the “narrow-restraint” clause in Edwards v. Arthur Andersen LLP, claiming that “if the legislature had intended the statute to apply only to unreasonable or over-broad restraints, it could have included language to indicate so.” While the Court in Edwards agreed with the Boughton decision, the Court argued that restricting use of land did not qualify as a non-compete. Furthermore, California lawyer David Trossen points out that the court claimed Boughton did not offer any guidance on evaluating non-compete, suggesting that using Boughton as a precedent for justifying a non-compete would be risky for Solé.

Yet Solé must have felt threatened enough by Lil’ Bill to risk a non-compete clause. After all, according to the Daily Trojan, Lil’ Bill and his family have been serving the USC community for 40 years. Surely, those 40 years gave enough of a foundation for them to gain significant market power and become a monopoly within the USC community. Perhaps Solé meant to kill Lil’ Bill’s market power.

Or perhaps the justification was even simpler. USC faces strong incentives to favor Solé’s non-compete over Lil’ Bill. The university financially benefits from Solé paying rent for a venue in the Village. Furthermore, in 2028, when USC Village will be used to host the Summer Olympics, Solé will reap additional profit from sales to competing athletes. Meanwhile, Lil’ Bill’s venue takes up a parking spot on USC’s property for free. Even if the financial loss of favoring Lil’ Bill were discounted, USC could face the legal cost of facilitating an illegal business. In a Daily Trojan interview, David Donovan said that “the city of Los Angeles has identified [Lil’ Bill’s] shop as an illegal business because it is operating out of parking lot and occupying a handicap space.”

But what do Lil’ Bill’s losses matter? They are excluded from the contract, as a negative externality–that is, a cost that signers of the contract cause, but are not held accountable for. And it is not enough to ask Lil’ Bill to give up his business and work for Solé, and call it accountability. When companies make decisions about their community, without the community’s legal ability to negotiate, the law itself ought to be reevaluated to consider the existing community businesses as stakeholders. To do otherwise, would be an economic injustice.

Index Funds Help Curb Corporate Short-Termism

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Active money management has lost its luster. Since the Great Recession, investors have given up on expensive hedge funds and their mediocre returns, preferring far less flashy options like index funds. Even after years of loose monetary policies and low volatility, weary investors are hesitant to jump back into the fray of active investing. Passive investing in index funds is now the new normal for the stock market. If investors want to see companies return to innovation and long-term growth, they should hope it stays that way.

Passive investing holds promise as a key tool in the fight against an increasingly common issue: corporate short-termism. Measuring data for publicly traded companies from 2001 to 2015, a McKinsey report found a significant, upwards trend in short-term thinking by corporations. For public companies, short-termism typically takes the form of share buybacks. Rather than reinvesting profits in new projects, these companies use the money to buy shares from their investors to boost their stock prices. As a result, short-term companies invest less in innovation and, according to the same McKinsey report, experience lower earnings growth than companies with long-term strategies.

Company executives cite pressure from investors, arising from increased media coverage and lower trading costs, as one of the main reasons for their short-term thinking. Index funds offer insulation from these pressures, allowing corporate executives to worry less about volatile investor reactions and focus instead on long-term growth. Index fund investors focus on the performance of the fund as whole, and the diverse companies that make up these funds dilute the impact of any one company’s stock fluctuations. Because of this, missed quarterly earnings face less scrutiny when many investors are only looking at the performance of the index and not the individual stocks it is comprised of.

Furthermore, for the casual investor, index funds are typically part of a hands-off investing strategy, again offering more leeway for companies to pursue long-term growth. Individual investors increasingly recognize that neither day trading nor actively managed funds are likely to outperform stock indexes over the long term. In response, these investors rely more on diversified index funds, offering better returns and peace of mind. This means fewer stockholders scrutinizing the performance of individual companies, leaving fewer people to exacerbate price changes by jumping into the dangerous strategy of buying rising stocks and selling falling ones. Thus, index fund investors escape the dreaded “buy high, sell low” scenario that plagues traders of individual stocks, while corporations avoid the volatility that accompanies this positive feedback loop.

However, index funds do not erase volatility altogether, especially when one considers that not all index funds investors are so passive. In fact, trading data for a type of index fund known as an exchange-traded fund (ETF) indicates higher volatility for stocks making up ETFs due to the low trading costs of these funds. Importantly, though, this increased trading can largely be considered “noise,” not tied to market fundamentals of individual stocks. Because of this, individual companies’ actions have little effect on this volatility, still allowing executives to pursue long-term projects with less pressure from myopic investors.

By moderating investor pressure to meet short-term expectations, the popularity of index funds grants corporations more freedom to invest in innovation, even when these projects take time to turn a profit. Because most project expenses are immediate while resultant increases in revenue may take time to materialize, investments in innovation often fall prey to shortsighted expectations for a company’s bottom line. Other companies avoid investing in innovation due to the uncertainty of success, weighed against the investor backlash if they fail. If companies expect an outsized impact on their stock performance should a project prove unprofitable, otherwise-promising investment opportunities go unrealized. In either case, companies can invest more in innovation as more projects become worthwhile when given enough time to overcome the costs of the initial investment.  

Some critics of index funds charge that rather than promoting innovation, the popularity of index funds instead encourages monopolization and other anti-competitive practices. Supposedly, index fund managers use their large ownership stakes of companies within the same industries to discourage competition and raise prices. As a recent piece from The Atlantic highlighted, though, fund managers can only offer their low-cost index funds by avoiding costs of highly active management. Thus, the coordination required to design and enforce anticompetitive efforts on such a large scale would prove prohibitively expensive for these index fund managers.

Furthermore, in instances where index fund managers do exercise their voting power, they typically do so in ways that support long-term company performance. In August 2017, Vanguard voted against ExxonMobil’s management to require disclosure of climate change risks. In the long-term, this increased transparency will help the company, boosting its reputation for honesty and encouraging it to adapt to the climate risks it will face. For Blackrock, issues over executive compensation make up the largest proportion of its votes against management. Both of these asset managers are willing to exert their influence to encourage long-term thinking in the companies they hold, largely because it is long-term performance that index funds’ customers seek.

These criticisms do raise another valid concern over the rise of index funds. While freedom from excessive investor scrutiny can encourage companies to pursue innovative projects, it can also allow corporate executives to engage in dubious business practices with fewer repercussions. Investors play a key role in disciplining C-suite executives through company votes, but this threat is only credible if investors catch wrongdoing in the first place. As large shareholders, index fund managers should remain vigilant of wrongdoing, monitoring companies on their own or heeding the warnings of activist investors.

The popularity of index funds has eased some of the pressure restraining corporate investment in long-term growth, but it is still up to index fund managers to ensure company executives use this freedom to enrich their investors, not to line their own pockets.    

Much Ado About Rice: Thailand’s Rice Market Exploitation Wildly Backfires

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On August 25, former Thai Prime Minister Yingluck Shinawatra was due to appear in court to hear the verdict on her trial over involvement in a rice subsidy scandal. If she is found guilty of negligence, she could face up to ten years in prison. Yet Ms. Shinawatra never showed up in court, and many officials believe she may have fled the country.

The rice subsidy program, which led to Ms. Shinawatra’s impeachment in January of 2015 as well as her subsequent trial, started off as a well-intentioned plan to help Thailand’s agricultural sector. It was one of the main selling points for her populist party, Pheu Thai, during the 2011 campaign cycle, and helped to win the party a landslide victory. Approximately 23 percent of the Thai population are farmers, and the subsidy program was intended to help Thailand’s rice farmers earn more for their crop.

The program worked like this: the government would buy rice from farmers at up to double the market price. Then, the rice would be stockpiled and withheld from the global market in order to drive global rice prices up. Once global rice prices rose, the Thai government would sell the rice and make a profit in the process.

At the time the program was implemented, Thailand was the world’s largest exporter of rice. In addition to having a warm, damp climate, Thailand has an abundance of fresh water sources, making it an ideal location for rice production. Furthermore, the Thai people have plenty of experience producing rice–it has been their staple crop for over 5,000 years. (“In the water there are fish, in the field there is rice” is a proverbial Thai saying). All of these factors combine to give Thailand an overall advantage in rice production vis-a-vis many other countries, which have neither the climate nor the experience in such a line of production.

When a country has this comparative advantage in the production of a good, it means that that country can produce that good more efficiently than other countries can. For example, Thailand can produce rice more efficiently than Norway can because its climate and topography are better suited for rice production. Therefore, Thailand will gain the most economically if it can focus its resources on rice production, thereby producing more rice at a lower cost.  Thailand can then purchase the goods and services it does not produce as efficiently from countries that do have comparative advantages in those lines of production. If we consider the Thailand and Norway example, we notice that Thailand can sell its rice to Norway and in turn buy oil, a good that Norway has a comparative advantage in. If two countries can play to their comparative advantages and focus on what they can produce most efficiently, they can produce more, sell more, and purchase other goods at lower prices. Thus, two trading partners can actually gain from trade.

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Former Thai PM Yingluck Shinawatra has come under fire for the rice debacle

It is important to remember, however, that a comparative advantage in a certain line of production does not guarantee that a country will dominate a given market. In designing the rice subsidy program, this was the Thai government’s — and Ms. Shinawatra’s — critical mistake. There is no such thing as a patent on rice production; anyone who lives in an area with ideal conditions for growing rice can do so. Thailand is not the only country with ideal conditions for growing rice. When Thailand withdrew rice from the global market, countries such as India and Vietnam jumped in to fill the gap. The presence of these competitors meant that the global price of rice did not rise as the Thai government had hoped. Instead, rice prices plummeted, going from a peak of $1,000 per ton in 2008 to around $390 per ton in 2014. Thai farmers were edged out of the global rice market, rice exports fell by a third, and the Thai government was forced to stockpile 18 million tons of rice in the first year of the program alone. In the end, the rice subsidy fiasco cost Thailand around $15 billion. Given that GDP per capita in Thailand hovers around $6,000, this is a gargantuan sum.

Despite the heavy losses that the Thai government sustained, then Prime Minister Shinawatra refused to end or reform the program. As the program lost more and more money, government scandals and social unrest ensued. In February of 2014, a group of rice farmers threatened to park 100 tractors at Bangkok’s airport as they had not been paid for their rice. In May of 2014, Ms. Shinawatra was removed from office by the Thai Constitutional Court after six months of anti-government protests, riots, and occupations of government buildings. In July of this year, the military junta now in control in Thailand froze some of Ms. Shinawatra’s bank accounts and ordered her to pay $1 billion in civil damages. And on August 25, the same day Ms. Shinawatra failed to appear in court, her former commerce minister, Boonsong Teriyapirom, was sentenced to 42 years in prison for falsifying government-to-government rice deals with China in an attempt to cover up losses on the rice subsidy scheme.

Ms. Shinawatra’s rice subsidy program, which started off as a well-intentioned plan to help Thai farmers, ended in losses and Ms. Shinawatra’s removal from office. Interestingly, much of the instability that stemmed from the program and the government’s response to its failure is rooted in economics, or rather, faulty economic assumptions. It is true that Thailand has a comparative advantage in rice production. Yet the benefits of a comparative advantage can only be reaped if a country sells the goods it produces well and maintains its market share. Pulling out of the market is very dangerous, for a competitor may be ready and willing to take your place.

 

Making capitalism in rural New England

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Since the 50s economic historians have gone back and forth over how to break down the puzzle of this shift in growth. Much of the debate has centered on figuring out why farms were so slow to produce food for such a long time. Some argued it was about a lack of access to markets for selling goods, so there was no incentive for producing more than what one family could consume. But then figures like James T. Lemon gathered data on output and family consumption (based on yield and family size estimates) revealing the presence of farm surpluses above and beyond what a family would need to sustain itself, which he believed proved the existence of early markets for agricultural output in the 1700s.

Others took a more anthropological approach, arguing that it wasn’t about market access at all, but a sociocultural “mentality” that was divorced from the idea of maximizing profit. These “moral economy” historians, borrowing from the anthropologist Clifford Geertz’s accounts of non-entrepreneurial Indonesian peasant villages saw early New England as a pre-capitalist, community-oriented system of exchange where norms, gifts and tradition mattered much more than efficient management and production to advance crop or meat output. In the words of historian Marc Bloch, “The society was certainly not unacquainted with either buying or selling. But it did not, like our own, live by buying and selling.”

This position is partly ideological. Marxist-minded historians like to think of peasant societies as having a non-capitalist ethics grounded in communal ideals. But there’s also some interesting evidence in its favor. Vickers, in his paper, “The culture of credit in rural New England, 1750-1800” describes farming communities as immersed in non-monetary exchanges– neighborly solidarity networks that helped families manage risk and allocate resources. Vickers provides some useful data based on farmer’s accounting books that offer a glimpse of how these informal networks of sharing, reciprocal gift-giving and mutual aid may have operated in rural American communities.

Some of the reports describe swapping casual labor or lending out farming equipment. One interesting data point comes from the diary of the midwife Martha Ballard. Nearly 78 percent of the transactions recorded in her journal account are purely non-monetary, with no mention of money or price value. In many cases, Martha provided lodgings and meals to travelers, or offered her abilities as a nurse. In exchange, members of the community would bring her foods or agree to watch her children, but in total Martha remained a major creditor to the community:

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Vickers argues that Martha never expected to be paid back in full, but rather believed that, “the final unit of accountability in non-monetary exchanges was not the individual but the community.” It was only in the monetary world, in her work as a midwife, where she expected to be paid a regular fee. Similar results are found for male farmers who loan out labor and equipment without expecting exact monetary compensation. In his conclusions, Vickers notes that while these non-monetary exchanges were not explicitly quantified, exchanges did reflect a sort of balance based on ethical beliefs such as duty to kin, respect for the elderly, and pity for the disadvantaged.

So if we take the “moral economy” historians at their word, the American capitalist transformation was largely about a change in values and attitudes, whereby farmers were suddenly inspired to begin thinking like entrepreneurs, to efficiently allocate resources and produce goods for a market. As for what exactly created that change, no clear mechanism is presented besides a few vague references to “energies” generated in the American Revolution.

Winifred Rothenberg, first in a paper and then in her book From Market-Places to a Market Economy, made one of the most compelling cases for why the moral economy position is unrealistic, or at least not the best explanation for how we moved from low to high productivity on our family farms. For her, development occurred when a lot isolated farming networks began to connect together to form cohesive markets for goods and labor. Instead of looking at changing attitudes, Rothenberg considers a series of indicators of a gradual cohesion and consolidation of markets, including convergences in wage rates and farm prices, the extension of credit networks to further and further partners, and the proliferation of market towns. For Rothenberg, the Revolution did play a role, but it was in the form of catalyzing the emergence of commodity, labor and capital markets as established entities. In one analysis, Rothenberg charts how prices for staple crops began to converge and fluctuate in unison; an indicator of increased market connectivity. Price data was gathered from 54 manuscripts for the price of corn, potatoes, rye oats, hay, beef, pork and cider:

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Her results showed a clear convergence of prices moving towards the 1800s in several commodities including corn and rye. Rothenberg writes, “The people who settled this land came from a tradition of Market Crosses, Market Days, Corn Markets, cattle, wool, cheese, silk and produce markets, stalls, shops, fairs, itinerant peddlers, and cattle drovers.” In other words, the farming families were never non-trading ethical peasants, but were instead just slow to develop the extensive networks needed to facilitate their entrepreneurial, labor productive spirit. The cultural changes that did occur (sons stopped spending their whole life on the family farm, the neighborly networks of mutual aid began to diminish in importance) were the result of market changes, not the other way around.

That’s not to say that we should completely discount culture-centric theories of capitalist transition. Jan De Vries has done important work documenting how changing aspirations for leisure products helped drive the consumption and productivity boom in the Netherlands. Vickers favors a view of America’s transition as an interplay between changing cultural values and impersonal market convergences. For him, people “engaged widely in marketplace dealings but conducted them on credit based on evaluations of personal character, which were inevitably cultural constructions…the concern over neighbourly reputation was actually a product of market growth, not its victim.” So mutual aid networks and moral economies actually helped facilitate the growth and expansion of interregional markets.

Following Vickers, we might conceive of America’s transition to capitalism as a case of New England farmers who for years relied on kinship and community norms to survive in a harsh, spartan climate, slowly and deliberately making way for market forces that incentivized productivity and wealth accumulation. The Revolution shook up labor and capital, and farmer’s sons began moving into the city looking for profitable work off the farm; technical improvements to roads and storage solidified generalized commodity prices, paving the way for railroads and new migrant workers to expand the manufacturing base, and the rest is history. It’s probably not a coincidence that during this period Adam Smith’s two major works on the entrepreneurial and sympathetic spirits of man, The Wealth of Nations and The Theory of Moral Sentiments were making the intellectual rounds. In his great paper “The Two Faces of Adam Smith,” Nobel laureate Vernon Smith argues that the two books come together to produce, “one behavioral axiom, ‘the propensity to truck, barter, and exchange one thing for another,’ where the objects of trade I will interpret to include not only goods, but also gifts, assistance, and favors out of sympathy … whether it is goods or favors that are exchanged, they bestow gains from trade that humans seek relentlessly in all social transactions…It explains why human nature appears to be simultaneously self-regarding and other-regarding.”

The EU’s currency conundrum: Macron hits a nerve

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Following Emmanuel Macron’s victory in the recent French presidential election, a wave of relief washed over many supporters of the European Union. Macron’s pro-EU stance won out against his right-wing opponent, Marine Le Pen, a sign that the recent populist surge may be subsiding. With the release of exit poll results, the euro hit a six-month high, buoyed by increased confidence that the EU would remain intact under a Macron presidency.

However, celebration of the EU’s preservation may be premature. As France’s newest president, Macron hopes to reform the EU and its currency to reduce the financial strains of EU policies on poorer members. These changes would come at the detriment of Germany and other EU countries with stronger economies, who have benefitted in recent years from a euro weakened by underperforming members. Challenging this currency advantage as the gap in member states’ economic performances widens, France’s new president may only have granted the EU a stay of execution if it continues to resist reform.    

On the surface, Macron’s proposals seem more likely to draw the ire of the French workers rather than other countries in the EU. Aimed at reinvigorating the struggling French economy, his labor reforms seek to improve the competitiveness of French business by reducing labor unions’ power and cutting corporate taxes. Macron’s sees free-market policies as the path to success for the French economy, currently held back by restrictive policies that restrict the workweek to just 35 hours and make firing workers a costly process. French laborers, currently some of the most expensive workers in the EU, would become more competitive, easing France’s economic troubles in the process. Macron hopes these domestic policies will assuage the current discontent and fight the appeal of anti-EU sentiment among a French labor force struggling under scarce job opportunities and a 10 percent unemployment rate.

Critical of the EU’s use of austerity in previous years, he has also called for reforms to the EU, including a common Eurozone budget designed to promote investment in member states whose economies remain stagnant. Since his inauguration, though, Macron has taken a less aggressive stance on these proposals, no longer competing for the presidency against his populist opponent, Marine Le Pen. He announced that he will focus on domestic reforms and will not demand EU members to take on any of the debt of their weaker members. But while his EU policies may be not be a priority for now, the underlying issues with the Eurozone will not be going away anytime soon, nor will the populist elements throughout Europe let the EU’s problems be quietly swept under the rug.

After all, Macron’s EU reforms take aim at economic issues inexorably linked to a defining characteristic of the European Union: the euro. To enhance economic integration within the EU, most member states adopted the euro as their currency but lost a great deal of control over monetary policy in the process. The shortcomings of this shared currency became highly apparent in the wake of the Great Recession and Eurozone debt crisis as some EU members recovered quickly while others like Greece and Spain struggled to return to pre-crisis output levels.

Member states’ divergence in economic performance led to an unintended consequence for Eurozone countries. During the recovery of stronger economies like that of Germany, economic growth typically leads to currency appreciation, which hurts exports and tempers continued economic growth. However, the presence of weaker economies under the same currency reduces currency appreciation, helping German exports. On the flip side, this also means that the weaker economies will suffer from weaker exports, as their currency is not able to depreciate as much due to the growth of other, faster-recovering economies like Germany under the same currency. Thus, the Eurozone’s shared currency provides an extra boost to already-growing members, while weaker states find it increasingly difficult to expand exports and improve their stagnant economies.

Opposition to reforms of this currency problem unsurprisingly comes mostly from Germany, a result of its vested interest in maintaining the current EU’s currency policies to safeguard its record-high trade surplus of $270 billion. With the largest economy of any EU member, Germany also possesses significant economic and political influence to protect this position. German Chancellor Angela Merkel has reflected these realities in her meetings with Macron, agreeing only to small changes in trade policy and defense but resisting more substantial changes to the EU. Opponents to Macron’s reforms argue his proposals would require changes to the EU treaty, but the unspoken objection is still Germany’s potential loss of its currency advantage.         

Though the populist surge may have settled for now, Germany cannot maintain this unfair situation for much longer, unless it offers some form of compensation to the weaker Eurozone members. If Germany continues to fight even Macron’s modest reforms, it runs the risk of galvanizing anti-EU sentiment across the struggling member states. Europeans may have been more understanding of EU intransigence in the response to earlier, radical populist movements. However, now faced with Macron’s moderate proposals to help weaker members, the EU can no longer escape blame for its failure to address the economic malaise of many of its states. Unless changes are made, the EU’s struggling member states will continue to resent the implicit subsidies they give to stronger economies like Germany through their linked currencies. If reform does not take place soon, this resentment may well give way to renewed, widespread calls for exits in numerous member states. Should this occur, Germany may not be able to salvage the EU again, but this time it will only have itself to blame.

Triggering by Trump and the emergence of economics of escapism

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A recent survey conducted by the online therapy company Talkspace found that, as of Inauguration Day, over 60 percent of respondents reported feeling some degree of post-election stress. In a 2016 Gallup poll, only 32 percent of Americans said they trusted conventional media “to report the news fully, accurately and fairly,” an eight percent drop from 2015 and the lowest level ever polled by Gallup. To cope with growing discontent, many Americans are turning away from their usual news outlets or their increasingly political Facebook newsfeeds in search of distractions. However, the thirst for distraction is not uncommon in American history, and escapism has become a staple during rough economic and political times.

Defined by the Merriam-Webster as “habitual diversion of the mind to purely imaginative activity or entertainment as an escape from reality or routine,” escapism may seem like a purely psychological issue, but there are very real economic ramifications when companies capitalize on this desperation by filling the demand for a break from reality.

During the Great Depression, Americans flocked to movie theaters. For 27 cents a ticket, about 4 USD in contemporary terms, people could escape the harsh reality of an economic depression for a stretch of time. Films like Dumbo, Fantasia and Arabian Nights, which were released during World War II, transported moviegoers into magical, exotic lands. The 1973-75 economic recession, which also marked the end of the Watergate scandal, the United States’ defeat in the Vietnam War, and two near assassinations of President Gerald Ford, shows a similar trend. In that time frame, directors like George Lucas and Steven Spielberg started releasing fantasy movies like Star Wars, Close Encounters of the Third Kind, The Exorcist and Jaws, all of which were among the top 10 highest grossing movies of the 1970s. Escapist cinema is key during economic and political hard times, as it is one of the easiest and most direct ways to find relief from the real world.

The Walt Disney Company, arguably the biggest player in escapist entertainment, had record breaking inflation-adjusted domestic gross ticket sales of over $2.93 billion in 2016, thanks to popular films like Captain America: Civil War, Finding Dory and Zootopia. From early November to late April, Disney’s stock increased over 26 percent. 21st Century Fox, another box office competitor, saw its stock rise by 37 percent from early September to late March. Even Netflix, which is not a direct competitor but another key player in escapist cinema, saw its stock increase by over 38 percent since the election, compared to a nine percent increase in the S&P 500 Index over the same period. Moreover, half of the top 10 highest grossing movies in 2016 were comic book adaptations, and all of the top 10 movies had a high degree of fantasy, meaning moviegoers actively seek fictional entertainment, and companies provide it.

The demand for escapist fiction extends over many markets, including the literature market. Orbit Books, a fantasy and science-fiction imprint, doubled its annual output last year. With the buzz of a likely science-fiction “golden age,” several other publishing companies launched their own science-fiction imprints. Is there a better way to hide from current unrest than to immerse oneself in a completely different universe? Along with science-fiction, the young adult (YA) genre – fiction published for readers in their teens – plays a key role in literature escapism. Seventy percent of YA novels are not purchased by teenagers, but rather by adults for their own reading enjoyment. YA literature provides not only a means of escapism, but also instant gratification and a sense of nostalgia.

Similarly, adult coloring books bring back nostalgia and reminiscence of childhood for the adult “readers.” In 2015, 12 million coloring books were sold in the United States, a huge increase from the one million sold in 2014. Millennials are 29 percent more likely to purchase an adult coloring book than all other buyers. Since coloring has the potential to reduce anxiety and increase mindfulness, it makes sense that the newfound popularity of coloring books would be directly related to the escalating need for escapism.

The rise of virtual reality (VR) and augmented reality (AR), evidenced by the boom of Pokémon GO, represents a new mode of escapist entertainment. Launched in July 2016 and known as the first use of AR to go “viral,” Pokémon GO has been downloaded globally by over 650 million people. By navigating around their physical surroundings, players are introduced to a parallel world on their phone screens, where a vast array of creatures and Pokémon supplies await discovery. The increase in popularity of AR and VR will be paved with exploitation by marketers, as already seen through the sponsorship deal between Pokémon GO and McDonald’s to entice players into the restaurant chain. Global revenue for the AR and VR markets are projected to reach almost $14 billion in 2017 and $143 billion by 2020. Clearly, this emerging market has the potential not only to provide a new means for escapism, but also to reap massive profits for those companies that utilize AR and VR.

From playing video games to trying new restaurants to visiting amusement parks, escapism is a natural way to de-stress when reality becomes overwhelming. Companies that already provide escapist entertainment are reaping the rewards of widespread unease, and if the U.S. political environment remains volatile, expect new entrants and innovations to satisfy a growing demand for escapism.