Why are college tuition, healthcare, and car repairs eating up bigger shares of our budgets? Alex says it's all about the Baumol effect, a deep economic insight about relative prices that explains why labor-intensive services inevitably become more expensive over time. Tyler isn't buying it. He thinks the Baumol effect is often invoked as an ex-post explanation but can't make predictions. Further, there's not enough Kelvin Lancaster in Baumol, Tyler argues—not enough attention to bundle of characteristics that define what a good really is.

In this episode, Alex and Tyler debate whether the Baumol effect is profound or overstated. They wrestle with examples ranging from haircuts in India to doggy daycare in Northern Virginia to Soviet-era ballet prices, touching on what poor countries can teach us about service costs and whether we're headed toward a future of AI tutors and robot mechanics. They also explore Staffan Linder's theory of the "harried leisure class"—the idea that as we get richer, we try to squeeze more utility into less time, making even our leisure more goods-intensive and rushed.

Link to transcript: https://www.mercatus.org/marginal-revolution-podcast/baumol-effect

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https://marginalrevolution.com/
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Timestamps
00:00 Introduction
00:34 Baumol effect overview
03:28 Critique of Baumol and whether it applies to higher education
09:06 Product quality, Lancastrian bundles, and replacement as repair
15:45 Music industry productivity growth
18:52 Rising healthcare costs: Baumol or improved quality?
22:39 Why haircuts are cheap in India
30:44 The difficulty in predicting productivity gains
34:47 Childcare as a clear example of the Baumol effect
37:26 Are repairs getting cheaper or more expensive?
47:18 The Staffan Linder effect

Alex and Tyler put three classic models through their paces. Alex starts with Spence on how a monopolist chooses quality and applies it to how the New York Times’ paywall flipped its audience incentives. Tyler pushes back, arguing that network effects and loyalists matter more than marginal customers. They move to Harberger on tax incidence and the hidden winners and losers of corporate taxes, minimum wages, and congestion pricing. Finally, Solow’s growth model frames a conversation on why some countries catch up and others stall, including what it gets right about China, and what it misses. Together, their debate shows why the best models keep earning their place—not because they’re perfect, but because they still shape how we think even when they’re wrong.

Transcript: https://www.mercatus.org/marginal-revolution-podcast/favorite-models-spence-monopolies-harberger-incidence-solow-growth

Follow Alex, Tyler, and Mercatus

• https://x.com/ATabarrok
• https://x.com/tylercowen
• https://x.com/mercatus
• https://marginalrevolution.com/

Timestamps:

• 00:00 Intro
• 00:19 Spence's monopoly model
• 07:08 How Spence applies to NYT and HBO
• 16:13 Alex and Tyler's approach to writing a textbook
• 20:43 Harberger's model of who pays tax
• 24:44 Harberger's model as applied to congestion and minimum wages
• 33:54 Solow's growth model
• 42:22 What Solow's model misses

Tyler and Alex revisit Tyler’s 1998 book and trace how commerce disciplines and amplifies creativity. Great artists bargained hard because money buys orchestras and time. “Inspired consumption” means high-quality audiences shape better art. Dynamic, Hayekian competition discovers new genres, while pulp cross-subsidizes the sublime. They disentangle when government support works, why TV improved with entry and subscriptions, how “payola” rhymes with supermarket slotting fees and with Spotify’s algorithmic era, and why some modern art maligned as minimal is, in fact, marvelous. Along the way they touch on reading’s spiky renaissance, textiles as the smartest undervalued collectible, the real story on brutalism (is the DC Metro overrated?), and a sober take on cultural pessimism’s recurring illusions—plus what all this implies for AI-era culture.

Transcript and links: https://www.mercatus.org/marginal-revolution-podcast/praise-commercial-culture

Stay connected:

• Follow Alex on X: https://x.com/ATabarrok
• Follow Tyler on X: https://x.com/tylercowen

See Alex and Tyler's recent posts on Marginal Revolution: https://marginalrevolution.com/

Chapters

• 0:00:00 Why Alex loves the book
• 00:02:05 The challenge of getting it published
• 00:04:10 Mozart was motivated by money
• 00:06:40 Great audiences create great art
• 00:08:25 Economics of the avant-garde
• 00:13:39 Good and bad government art funding
• 00:17:22 Golden era TV
• 00:20:20 Book publishing and reading
• 00:26:43 Competition as a dynamic discovery process
• 00:32:14 The value of modern art and architecture
• 00:38:53 Payola got a bad rap
• 00:42:10 Spotify streaming economics
• 00:46:41 Why cultural pessimism pervades

Recorded 1/13/2025