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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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

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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

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• 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

In the final episode of Season 1, Alex and Tyler explore one of the most consequential quests in the history of economics and finance: the decades-long search for a formula to price options. From Louis Bachelier's groundbreaking work in 1900 to the eventual triumph of Black, Scholes, and Merton in the 1970s, they trace how brilliant minds across mathematics, physics, and economics gradually unlocked the how to properly price financial instruments like calls and puts. Along the way, they examine how this theoretical breakthrough revolutionized modern markets, sparked the creation of the Chicago Board Options Exchange, and transformed our understanding of uncertainty and risk management. The conversation ranges from the hidden histories of early options traders to how options theory now shapes everything from portfolio insurance to oil well investments to mega-sized chip plants. They close by reflecting on how options theory has become fundamental to modern decision-making far beyond trading floors, revolutionizing how we think about and manage uncertainty across the entire economy.

Transcript and links: https://www.mercatus.org/marginal-revolution-podcast/quest-price-options

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• 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

• 00:00 - The puzzle of pricing options
• 03:46 - Louis Bachelier's contribution
• 09:52 - Enter Paul Samuelson
• 15:05 - Black, Scholes, and Merton
• 27:05 - Kassouf, Thorp, and cashing in on options theory
• 32:28 - Other applications of options pricing theory

Recorded 4/12/2024

In this exploration of the "new monetary economics," Alex and Tyler revisit the ideas of thinkers like Fischer Black, Eugene Fama, and Robert Hall, whose bold views about the Fed and the money supply once seemed detached from reality but now increasingly describe the financial world we inhabit. They explore why traditional measures like the money supply are becoming obsolete, how crypto and stablecoins are reshaping monetary systems, and why AI might emerge as a major consumer—and creator—of cryptocurrencies. They also discuss the paradox of pegged currencies, the lessons of algorithmic stablecoin failures like Terra, and the surprising connections between fiscal and monetary policy in a world of increasingly liquid assets. Finally, they reflect on how the unconventional ideas of new monetary economics, once dismissed as fringe, are now critical for understanding our modern financial landscape.

Recorded March 14, 2024

Transcript, video, and links: https://www.mercatus.org/marginal-revolution-podcast/new-monetary-economics

Chapters

• 00:00 - Outlining the ideas of new monetary economics
• 09:03 - The difficulty of defining the money supply
• 17:36 - What determines the inflation rate?
• 22:32 - Crypto's role in validating new monetary economics
• 26:02 - The role of the Fed in a Modigliani-Miller world
• 32:09 - Stablecoins and the paradox of pegs
• 46:11 - The bottom line

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• 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/

In this episode, Alex and Tyler dive deep into the fascinating and often misunderstood world of insurance, exploring how this trillion-dollar industry underpins modern economies while shaping human behavior in surprising ways. From its ancient roots in maritime adventures to the revolutionary development of life insurance, they unravel the economic logic and social norms that made this market possible. Along the way, they grapple with enduring puzzles: Why do people insure against some risks but not others? Why did life insurance once seem repugnant, only to become a moral imperative? How has the industry's ability to manage moral hazard and agency problems evolved—or not? From mutual aid in Indian villages to the legacy of 17th-century tontines, the conversation illuminates the ways in which insurance reflects both the limits of human foresight and our relentless attempts to navigate an uncertain world.

Recorded March 14, 2024

Transcript and links: https://www.mercatus.org/marginal-revolution-podcast/economics-insurance

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

• 00:00 - The size and benefits of the insurance industry
• 02:35 - Insurance as a transaction enabler
• 10:13 - Nicholas Barbon, Robin Hanson, and insurance bundling
• 18:22 - The effect of advances in mathematics on insurance
• 23:45 -Tradable insurance as an early prediction market
• 32:54 - Risks we don't insure against
• 37:12 - Charles Ives and changing social attitudes around life insurance
• 41:33 - Will repugnance fade for paid organ donations as it did for life insurance?
• 45:31 - Have the agency problems behind insurance been fully solved?
• 54:44 Good books on insurance and takeaways

In this final installment of their series on the 1970s, Alex and Tyler turn to the social upheaval and crime wave that marked the decade as one of America’s most turbulent. They explore how rising crime rates transformed cities, fueled a national sense of fear, and led to far-reaching policy shifts, including mass incarceration and changes in urban policing. From the shocking statistics on homicide and stranger violence to the rise of serial killers and political bombings, they consider how the era’s unprecedented violence influenced American culture and policy. The conversation concludes with a caution against complacency, as they reflect on how fragile today’s low-crime environment may be—and what lessons from the past should guide us in preserving it.

Recorded July 17, 2024

Transcript, video, and links: https://www.mercatus.org/marginal-revolution-podcast/1970s-crime-wave

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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/

Read a full transcript enhanced with helpful links, or watch on YouTube.

Recorded July 17th, 2024

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