Full text of Econ Focus (Federal Reserve Bank of Richmond) : Spring 2006, Volume 10, Number 2

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

SPRING

2006

THE

FEDERAL

RESERVE

BANK

OF

RICHMOND

THE ROAD AHEAD
Can Congestion Pricing
Ease Gridlock?

Gender Gap • Pension Problems • Economics of Sports

COVER STORY
9

The End of the “Free” Ride? Tolls bring home the true cost
Tolls bring home the true cost of roads
of roads
With traffic congestion worsening, transportation economists are
emphasizing pricing tools to make drivers think about how much
highways really cost.

FEATURES

16
16

Searching Optimism meets reality Economists believe
On Track? for the Hidden Economy:in the pursuit of as much
as 10 percent of the U.S. in the Southeast
high-speed passenger raileconomy is “underground.” Is that such
a bad thing?
The Southeast High-Speed Rail Corridor is supposed to connect
The hidden D.C., to takes many forms – from scrip currency in rural
Washington,economyJacksonville, Fla. But progress has been slow amid
Appalachia to walk shoveling in Richmond, Va. — and it’s not always as
economic and logistical challenges.
sinister as it sounds. But the size of the underground economy is as much
20
in

Trade Wars:meaning. States and other countries have
The United
debate as its
turned to antidumping policies as their preferred
20
instrument for trade protection
In a time when Some prices are slow span the globe,they sticky
Sticky Situation: trading partnerships to change. Are critics say
antidumping policies are both policy?
enough to affect monetary ineffective and misapplied.

Nobody doubts their existence, but many question their importance.
24
Some leading economists, including a widely cited Richmond Fed
Seasoned by the Seas:divergent views about the importanceto sticky
Boatbuilders continue to adapt of
researcher, hold sharply
maritime their impact oncontribute to coastal economies in
markets and the economy.
prices and

eastern North Carolina

24

Mass-produced boats have captured a large share of the domestic
The Dollar many firms on the Carolina has made American
market. For Dilemma: The falling dollar coast, survival has meant
serving more attractive tocustom, high-end boats. not everyone
goods a niche market with consumers abroad, but

is happy about the currency’s slide
28
The dollar’s decline has been good news for many Fifth District firms.
Pensions Under Pressure: Governmentwider trouble for the U.S.
workers have
Whether further depreciation portends
long looked forward seen.
to retiring with generous,
economy remains to be
taxpayer-guaranteed nest eggs
26
Some of them may be disappointed. Many of those retirement systems for
The and local Business: Biometrics cluster sharpens black.
state Identitygovernments are having trouble staying in theWest

Virginia’s economic image
32
The Federal Bureau of Investigation’s Criminal Justice Information
The PayDivision in Clarksburg,more money thanawomen. Some
Divide: Men make W.Va., has spawned cluster of businesses
Services
new economic research helps explain why
Labor market discrimination is not the main culprit. Differing
incentives to work may be the key. But effective policy remedies
remain elusive.
related to biometrics, the science of measuring physical characteristics to

DEPARTMENTS

1 President’s Message/Pensions in the 21st Century
2 Jargon Alert/Marginal
3 Research Spotlight/Fine-Tuning
4 Around the Fed/Working or Shirking?
5 Policy Update/New Reforms for Deposit Insurance
6 Short Takes
36 Interview/Raymond Sauer
42 Economic History/Heritage Tourism
46 Book Review/Licensing Occupations
48 District/State Economic Conditions
56 Opinion/The Economist as Policy Adviser
P H OTO G R A P H Y: STO C K BY T E /G E T T Y I M AG E S

VOLUME 10
NUMBER 2
SPRING 2006

Our mission is to provide
authoritative information
and analysis about the
Fifth Federal Reserve District
economy and the Federal
Reserve System. The Fifth
District consists of the
District of Columbia,
Maryland, North Carolina,
South Carolina, Virginia,
and most of West Virginia.
The material appearing in
Region Focus is collected and
developed by the Research
Department of the Federal
Reserve Bank of Richmond.
DIRECTOR OF RESEARCH

John A. Weinberg
EDITOR

Aaron Steelman
SENIOR EDITOR

Doug Campbell
MANAGING EDITOR

Kathy Constant
STA F F W R I T E R S

Charles Gerena
Betty Joyce Nash
Vanessa Sumo
E D I TO R I A L A S S O C I AT E

Julia Ralston Forneris
R E G I O N A L A N A LY S T S

Andrea Holmes
Robert Lacy
Ray Owens
CONTRIBUTORS

Joan Coogan
Megan Martorana
Christian Pascasio
Andrea Waddle
Patricia Wescott
ART DIRECTOR

Larry Cain
C I RC U L AT I O N

Nichole Armstead
Walter Love
Shannell McCall
Published quarterly by
the Federal Reserve Bank
of Richmond
P.O. Box 27622
Richmond, VA 23261
www.richmondfed.org

Subscriptions and additional
copies: Available free of charge
by calling the Public Affairs
Division at (804) 697-8109.
Reprints: Text may be reprinted
with the disclaimer in italics
below. Permission from the
editor is required before
reprinting photos, charts, and
tables. Credit Region Focus and
send the editor a copy of the
publication in which the
reprinted material appears.
The views expressed in Region Focus
are those of the contributors and not
necessarily those of the Federal Reserve
Bank of Richmond or the Federal
Reserve System.
ISSN 1093-1767

PRESIDENT’SMESSAGE
Pensions in the 21st Century

T

his issue of Region Focus
features a look at the
financial
difficulties
facing many public-sector pension systems in the United States.
Broader-based government-run
benefit programs, such as Social
Security, have well-publicized
funding challenges as well. But
such problems are not limited to
the public sector. More and more
private companies are freezing
their pension plans or asking
workers for concessions as retirement liabilities mount.
Most of these private plans are backed by the Pension
Benefit Guaranty Corp. (PBGC), the 1974-created government agency that covers about 44 million workers and
retirees participating in more than 30,000 private-sector
defined benefit pension plans. The agency is financed
largely by insurance premiums paid by companies, but those
premiums might prove insufficient to cover future liabilities.
In fact, a taxpayer bailout is a growing possibility with the
rising number of firms having to turn their pensions over to
the PBGC.
In the last five years, according to the PBGC, claims from
employer pension plans totaled $14.3 billion, representing
70 percent of all the claims incurred since the agency’s
creation more than 30 years ago. The PBGC’s deficit now
nears $23 billion. Given these problems, it’s worth asking why
firms adopted defined benefit pensions in the first place. This
question is especially interesting given alternatives like defined
contribution 401(k) plans, which carry none of the risk but can
provide many of the same financial benefits to workers.
First, some businesses undoubtedly adopted defined
benefit pension plans for sound business reasons — or, at
least, what appeared to be sound business reasons. For certain
kinds of industries, workers might accumulate valuable
information on the job over time. For others, the cost of
recruitment might be especially high. So it’s beneficial to have
long-term employees. In those cases, defined benefit pensions
— which are often based on years of service to a company —
might be seen as useful enticements.
In fact, it was with this purpose in mind that among the
very first private pensions were those adopted by railroads
around the turn of the 20th century. In the case of railroads,
the objective was, in part, to ease out older workers, many of
whom had aged beyond the point where they were able to
do their jobs well. As economist Steven Sass, formerly with
the Federal Reserve Bank of Boston, wrote in a book
about private pensions, the civilized way to institute a

mandatory retirement age was to couple it with a pension.
The railroad pension system helped attract and retain the
right kind of people, and let them go at the right time.
But it’s not clear that this kind of argument makes as much
sense in today’s world. Job mobility is increasingly important
to workers, who tend to spend their careers jumping
from organization to organization in search of better opportunities. As a recent Federal Reserve Board study put it: “In
the current environment, certain workers and firms prefer
pension plans that do not penalize job change.”
Also, many companies instituted defined benefit pensions
during periods when those firms had very large shares of their
respective markets. With revenues rolling in, it seemed
reasonable that they could promise generous benefits —
and deliver the goods when the time came. But increased
competition has cut into their bottom lines and made oncereasonable assumptions about benefits now untenable.
Public policy probably has played a role, as well, in the
development of defined pension plans. When firms have been
hamstrung in their ability to negotiate with employees on
wages, due to government controls, they have often turned to
benefit increases as an alternative. But it hasn’t just been
during such periods that companies have used more generous
benefits as an attractive bargaining chip. Witness the case of
Trans World Airlines increasing pension benefits in the 1990s
so that employees would take wage concessions — even as the
air carrier was in bankruptcy protection.
Such decisions, one has to believe, are affected by the
existence of the PBGC backstop. In weighing whether to
increase benefits or fully fund their plans, firms carry the
assumption that, should they someday go bankrupt, it won’t
matter because the PBGC will be there to protect workers by
providing partial coverage of their pensions. At its core the
PBGC is a form of insurance, the intent of which is to spread
and share risk. Reforms ought to concentrate on reducing
incentives for firms to deliberately shift risks onto the PBGC,
perhaps through careful implementation of funding
requirements and charging premiums based on credit risk.
Beyond that, as with all forms of insurance where the moral
hazard problem is significant, we should think hard about
whether pension insurance ought to be more limited, or even
withdrawn altogether.

JEFFREY M. LACKER
PRESIDENT
FEDERAL RESERVE BANK OF RICHMOND

spring 2006 • Region Focus

1

JARGONALERT
Marginal
very day, people make trade-offs between what they
want and what they can afford. They must decide
how to divide their total budget to gain the most
satisfaction from total consumption. In particular, people
weigh the benefit of consuming an extra unit of one good
instead of an additional unit of another.
Take pizza. A diner might get, say, 10 units of satisfaction
from the first slice. Two slices may give 15 total units of
satisfaction, with the second
slice providing only five. That’s
because the person’s initial
craving is gone, and he is not as
hungry after already having eaten
one slice. So even as the total
value of eating pizza is rising, the
specific value of each additional
slice is decreasing. Instead of
reaching for a third slice, this
person might well decide to
spend his time and money on
something else.
Everyone talks about the law
of averages. But to economists,
some of the biggest insights are found at the margins. In
economics, the term “marginal” refers to the difference of
one more unit. The way people look at pizza consumption,
for example, is a textbook case of marginal utility. If we think
of utility as the sum of satisfaction gained from consuming a
given amount of goods, then marginal utility is the additional satisfaction gained from each additional unit of
consumption. Each unit of consumption of a certain good
has a cost in terms of lost utility from the consumption of
another good. “Marginal analysis” helps economists make
sense of decisions that people make to receive the most
benefit from their limited resources.
Why is this important? If there were only one good in the
world, people would continue to consume it until their
marginal utility was zero. (Imagine this happening when you
eat so much pizza that you start to feel sick.) This doesn’t
happen with all goods, though. For example, a person may
not reach a point of negative utility from acquiring jewelry.
Their utility might go up, but at a continually decreasing
rate, because they don’t covet that 100th pair of
earrings as much as they did the first.
Marginal analysis is especially useful in cases when
consumers create a “basket” of goods with their budget. This
means that there are many goods from which consumers can
choose. They can choose to either consume all of one good
or to consume some combination of goods. The trade-off

E

2

Region Focus • spring 2006

is that, because of limited budgets, they will consume
less of any one good if they choose to have many goods in
their basket.
Think of a shopping cart. Either you can stuff yours with
only potatoes or you can combine a few potatoes with a
small amount of many other goods, all the while spending a
set amount of budgeted money. The question then is: What
combination gives you the most satisfaction? Once each
additional unit of a given good or
activity starts to give you less
satisfaction, you will spend the
next dollar on the good that gives
you the most utility.
Sometimes this can lead to
spending patterns that may seem
at odds with the grocery cart
example. Let’s say you are
landscaping your back yard and
have allotted $20,000 for the
project. But after you have
reached that threshold, you
determine that there is an
additional item — say, a privacy
fence — that would make all the other renovations more
enjoyable. The extra dollars you spend on the fence will
not result in decreased utility. Instead, they will give you
more satisfaction. This is a case where more spending on a
single project can actually give you greater “bang for your
buck.” You might be a bit upset that you went over budget,
but you determine that the extra money spent on the
fence will increase your utility more than spending that
money on anything else.
Understanding marginal principles is also important in
understanding how much people are willing to work, or how
much leisure they consume. The United States and most
other developed countries have a progressive income tax:
The more money you make, the higher tax rate you pay. If
you are near the threshold of being bumped into a higher tax
bracket, you might decide that you are unwilling to work
additional hours per week because the wages you receive are
proportionately less. You might consume leisure instead.
There are few concepts in economics that are more
important than marginalism. It can help explain how
consumers, producers, and workers make decisions on a
daily basis. And, as the taxation example demonstrates, it can
have powerful implications for public policy.
RF
Andrea Waddle is a research associate at the Federal
Reserve Bank of Richmond.

ILLUSTRATION: TIMOTHY COOK

BY A N D R E A WA D D L E

RESEARCHSPOTLIGHT
Fine-Tuning
BY VA N E S S A S U M O

therefore set the price of an original just low enough to
n the summer of 2005, the U.S. Supreme Court
make the consumer indifferent between buying and
handed down a surprise ruling that rocked the digital
copying. At this price, copying is discouraged since
media landscape: Grokster and Streamcast Networks,
purchasing an original is now at least as attractive as
makers of file-sharing, or peer-to-peer (P2P), software
making a copy. However, some transaction costs are still
could be held liable if they were found to encourage piracy
important to the seller. Without them, the price and, by
on the Internet. America’s biggest music and movie
extension, the seller’s profits will be pushed close to zero.
companies, whose businesses depend on copyrights to
Music and movie companies will naturally want to make
creative works, had won their day in court.
these costs as high as possible to raise prices. Lobbying for
But whereas the court objected to the act of infringing
stricter enforcement of anti-piracy laws and against
copyrights, the P2P technology itself was not ruled illegal,
technologies that make sharing easier are some of the ways
as some media firms had hoped. This, like the shutdown of
of making copying more costly to consumers.
Napster almost six years ago, is yet another chapter in the
But there may be a smarter way of achieving the same
ongoing battle between artists looking to protect their
goal. One way of increasing
work and consumers wanting
the wedge between the
easy access to content — a
benefit derived from owning
scrap that has been made
“Copying and Copyright” by Hal Varian.
an original and a copy is to
fiercer by the advent of digital
turn the original into a more
technology.
Journal of Economic Perspectives,
valuable product instead of
A copyright grants a temmaking the copy more
porary monopoly to authors
Spring 2005, vol. 19, no. 2,
expensive. In fact, the same
of literary, musical, or artistic
technologies that some firms
works. With it, they reap the
pp. 121-138.
fear today can be used to their
fruits of their labor for a specadvantage by creating a better
ified period of time. This
version of the original — an improved vintage that is a
exclusivity ensures that the appropriate incentives are in
more desirable product to consumers.
place for people to create. But the age of digitization and
Apple’s iPod is one example of a successful innovation
the Internet has turned the usual legal protection afforded
that has made buying an iTune (at 99 cents a piece) often
by copyright on its head. Nowadays, most newly created
more convenient than trying to download that song from
material starts life in digital form, making the cost of
the Internet. Apple has proven that a viable business
copying virtually zero and the quality of the reproduction
model is achievable: It crossed the 1 billion song mark
near perfect. Moreover, new networking technologies
in February 2006, just three short years since it sold its
advanced on the Internet have provided an easy, inexpenfirst iTune.
sive, and almost seamless way of distributing content.
One need not look too far back in history to realize that
Might there be a way for authors and the firms that sell
the digital revolution may actually present more of an
their work to survive in a world without effective
opportunity than a threat to copyright holders. The radio
copyright? In a recent paper, Hal Varian, an economics
was to end all live attendance at baseball games. The movie
professor at the University of California at Berkeley,
industry felt sick to its stomach when home video
reckons so. An individual will only be willing to forego
recorders were introduced. Hence, it may not be the best
copying if the benefit of owning an original exceeds that
strategy to block technological innovation, as movie and
of sharing. Transaction costs that may make copying
music makers are doing with P2P today. This is especially
inconvenient and undesirable, such as inferior reproductrue in cases when advances in digital technology can
tions and congestion due to the number of people waiting
reduce the costs of creating and distributing content,
in line, force a wedge between the value of an original and
which would allow consumers to pay much less for
a copy. However, as the introduction of a new technology
legitimate access in the future. Protection of content is
begins to drive these costs down, the incentive to copying
essential to inspiring creative works, but guarding it too
increases since there are now fewer barriers to obtaining a
zealously may actually stifle new technologies that could
good reproduction.
bring enormous benefits to consumers, authors, and media
A clever seller, according to Varian, will view the
companies alike.
RF
possibility of sharing much as it would a competitor, and

I

spring 2006 • Region Focus

3

AROUNDTHEFED
Working or Shirking?
BY D O U G C A M P B E L L

“Are We Working Too Hard or Should We Be Working
Harder? A Simple Model of Career Concerns.” Andrew
Foerster and Leonardo Martinez, Federal Reserve Bank of
Richmond Economic Quarterly, Winter 2006, vol. 92, no. 1,
pp. 79-91.

or the most part, workers decide for themselves how
hard to work. In many cases, it’s a safe bet that they
are motivated by their career aspirations. Employees
interested in promotions, raises, or new opportunities
would, it is presumed, want to enhance their
reputations. In general, employees can best accomplish
this by exerting effort on the job — working harder.
Take the example of a salesperson who is trying to
decide whether to work an extra hour. He knows that his
future compensation depends on his perceived ability.
He can deduce that by working one extra hour, and by
extension selling one extra widget, his employer will judge
him a more able employee and pay him handsomely.
This might be comforting to business owners who
would like their employees to exert effort as if they
owned the firm. But are career incentives really enough
to accomplish this?
In a new article, Richmond Fed economists Andrew
Foerster and Leonardo Martinez investigate the power of
career incentives. The authors developed a simple mathematical model that seeks to replicate interactions between
workers and the job market. In particular, their model
examines whether career-concern incentives can, all
by themselves, properly motivate employees to make
“socially efficient” decisions about how hard to work, or to
work as hard as they would work if they owned the firm.
The answer is no.
Here’s the problem: Workers don’t consider the productivity of their effort (or how much their work will benefit
society, or even their firm) when deciding whether to
ratchet up or down effort. Employees exert extra effort
based on the expected change in their future compensation.
If employees think their compensation is particularly
sensitive to their reputation, they may work too hard,
overshooting the “socially efficient” effort level. On the
flip side, if employees don’t think their reputations
matter, then they won’t work hard enough to meet the
socially efficient level.
“Career concerns do not necessarily lead to socially
efficient decisions by the employee,” the authors write.
“Getting employees to make socially efficient decisions
would require additional incentives beyond those
created by career concerns.”

F

4

Region Focus • Spring 2006

“Retail Deposit Fees and Multimarket Banking.” Timothy H.
Hannan, Federal Reserve Board of Governors Finance
and Economics Discussion Series Paper 2005-65,
December 2005.

s anyone who’s tried to withdraw cash from an
unfamiliar ATM can attest, banks in recent years have
made fees a key part of their revenue stream. Now comes
one of the first studies to compare some of the most
common fees and then figure out which kinds of banks in
which kinds of locations tend to charge the most.
In the article, Fed economist Timothy H. Hannan looks
at six common fees, including those for checks drawn on
insufficient funds, for stop payments on checks, and for
using another institution’s ATM. What he finds won’t thrill
many banking customers: the bigger the bank — specifically,
those with a presence in more than one market — the
greater the likelihood of “substantially higher” fees.
Moreover, banks in highly concentrated markets tend to
charge the highest fees. This means that in regions with
many banks, even smaller banks hike up their fees — even as
they tend to keep lower fees on average when left alone. The
author notes an “interesting exception” to this finding,
however: Small banks tend to charge lower fees to account
holders who withdraw cash from other banks’ ATMs, in an
effort to keep depositors from switching to a competitor.

A

“Why are Immigrants’ Incarceration Rates So Low? Evidence
on Selective Immigration, Deterrence, and Deportation.”
Kristin F. Butcher and Anne Morrison Piehl, Federal Reserve
Bank of Chicago Working Paper 2005-19, November 2005.

mmigrants to the United States share many characteristics
with this nation’s population of prisoners: They tend
to have low average levels of education, low wages, and
generally are young and male. But despite economic theories which seem to support a link between immigration
and crime, the authors find evidence that immigrants have
“very low rates of institutionalization compared to the
native born.” In fact, immigrant incarceration rates have
dramatically fallen over the past few decades, standing in
2000 at one-fifth the rate of comparable native-born
Americans.
The authors rule out increased deportation as driving
the trend. Instead, they argue that immigrants are
“self-selected from among those with lower criminal
propensities.” The upshot, the authors suggest, is that
policymakers ought to view with skepticism sweeping
generalizations of immigrants as criminally inclined. RF

I

POLICYUPDATE
New Reforms for Deposit Insurance
BY PAT R I C I A W E S C O T T

O

n Feb. 8, President Bush signed into law substantial changes to the nation’s system of deposit
insurance. Collectively known as the Federal
Deposit Insurance Reform Act of 2005, the reforms are
intended to instill greater market discipline among insured
institutions — banks and thrifts that have deposits guaranteed up to $100,000 per account. Specifically, the new
provisions include:
• Grant the Federal Deposit Insurance Corp. (FDIC)
more flexibility with the premiums it charges
institutions for deposit insurance;
• Merge the two insurance funds, the Bank Insurance
Fund and the Savings Association Insurance Fund;
• Increase coverage for certain retirement accounts;
• Perhaps adjust for inflation coverage on all types of
insured accounts every five years, starting in 2010.
The provisions take effect no later than Nov. 5. Much of
this reform is based on ideas that were first floated by the
FDIC in 2001. Passage was stymied for several years amid
bargaining between advocates of an immediate increase in
deposit insurance coverage and those opposed to any
increase. The resulting compromise provides an immediate
increase in deposit insurance coverage for a limited group of
accounts, with the potential for future increases that match
inflation.
The FDIC currently targets reserve fund balances to
equal 1.25 percent of insured deposits. If the fund exceeds
1.25 percent, well-capitalized and highly rated institutions
pay no insurance premiums. All institutions are required to
provide premiums of at least 0.23 percent — or 23 “basis
points” — of insured deposits in times when the fund falls
below target. This means the FDIC either charges no
premiums to most institutions when the fund is strong, or
high premiums to all institutions, leaving it little room to
adjust for actual risk.
Upon completion of the merger of the insurance funds,
which must occur no later than July 1, the newly formed
Deposit Insurance Fund’s reserve ratio will be set each year
and allowed to range between 1.15 percent and 1.5 percent
of insured deposits. Additionally, a cap will be placed
on the new Deposit Insurance Fund at 1.5 percent via a
system of mandatory dividends, and the 23 basis point cliff
is eliminated. This paves the way for a new risk-based
premium system in which how much an institution pays is
controlled by the risk it poses to the insurance fund, much
as envisioned (but never fully implemented) by the Federal
Deposit Insurance Corporation Improvement Act of 1991.
Now, the FDIC gains flexibility in determining premiums,

acting in certain respects like a private insurer.
The bill provides for one-time deposit insurance credits
(the pool totaling $4.7 billion) for reducing, but not
eliminating, future deposit insurance premiums for those
institutions that had contributed to the insurance funds
prior to 1996. The new rule aims to promote fairness and
address the “free rider” problem of institutions that
never paid premiums after 1996, thanks to the earlier
contributions of institutions whose payments built up the
insurance fund to strong levels.
Additionally, the new law retains deposit insurance
coverage at $100,000 per account, but now with an
inflation adjustment process. Starting in 2010 and every five
years thereafter the new law gives the FDIC and the
National Credit Union Administration discretionary
authority to increase coverage with respect to inflation for
individual, retirement, and municipal accounts by tracking
the Personal Consumption Expenditure Index. The bill also
provides for the increase of coverage of retirement
accounts to $250,000.
Though increasing deposit insurance coverage might
seem like an obvious and reasonable move, doing so
concerns some economists. Such an increase could lead to
an overall reduction in market discipline. That is, people
now holding greater than $100,000 in deposits (even
though they are a small minority of depositors) will have less
incentive to keep a close watch on their deposits. Thus, the
“moral hazard” problem — the idea that insurance may lead
to heightened risk-taking — will be increased. What is
worse, the raised insurance ceiling will attract new
depositors, giving banks greater means to act on the
increased incentives to take risk.
Then why increase deposit insurance coverage? The
purpose of deposit insurance, established by the Federal
Banking Act of 1933, was to prevent mass bank runs and
to safeguard depositors with few financial assets from
the loss of their deposits. Some argue that during the
past 25 years inflation has eroded the value of deposit
insurance coverage. Deposit insurance was last increased in
1980 from $40,000 to $100,000. In raising coverage,
policymakers have sought to preserve the reputation of
deposits as safe havens for financial assets. Whether this
is worth the cost of the accompanying increase in moral
hazard, and reduction in market discipline, is something
economists and analysts will be watching closely in the
coming years.
RF
Patricia Wescott is a research analyst at the Federal Reserve
Bank of Richmond.

spring 2006 • Region Focus

5

SHORTTAKES
such applications. “Corporate industrial involvement in
South Carolina’s efforts is vital because the economic benefits from hydrogen-related research are most likely to accrue
to regions where research is applied, not necessarily where
the research is just performed,” noted a July 2005 report
published by the South Carolina Hydrogen Coalition and
ydrogen is the most abundant element in the universe
the South Carolina Energy Office.
and has a myriad of uses, from making margarine to
These partnerships are already occurring. USC formed
fueling the space shuttle. Now, with President Bush’s
the Industry/University Cooperative Research Center for
$1.2 billion Hydrogen Fuel Initiative, hydrogen is at the
Fuel Cells in 2003. Thirteen organizations provide about
center of some significant economic development efforts
$500,000 annually to the center, while $250,000 comes
across the country.
from USC and the National Science Foundation.
South Carolina wants a piece of the action, hoping to
More recently, Aiken County opened its $10 million,
generate high-paying research jobs in the near term and help
60,000-square foot Center for Hydrogen Research adjacent
create a new economic base in the long term. Others are
to the Savannah River National Laboratory in February.
trying to do the same thing, but the Palmetto State has
The national lab will lease about half the space at the center
several assets it hopes to exploit with some additional
and the first private tenant will be Toyota, which is
public and private support. Gov. Mark Sanford has proposed
partnering with the lab to test hydrogen storage tanks for
$1.4 million in his 2006–2007 budget to help things along.
fuel cell automobiles.
In pursuing hydrogen projects, the state’s greatest asset
Even with these assets, South Carolina has a lot of work
may be the research and development experience of the
to do before taking a leadership role in hydrogen-based
Savannah River National Laboratory. The federally funded
enterprises. California, Connecticut, Ohio, and other
facility near Aiken, S.C., has worked with tritium, a radioacstates have been promoting the development of hydrogen
tive isotope of hydrogen used in weapons, and has
applications longer than
researched new ways to
South Carolina, plus
generate, store, and use
they receive a lot more
hydrogen since 1951. In
private and government
addition, the University
R&D funding.
of South Carolina
Also, the state will
(USC) and Clemson
need more brain power
University have investito meet the challenge of
gated hydrogen-related
turning hydrogen into a
technologies, including
viable alternative to
fuel cells that use
gasoline, which is more
hydrogen and oxygen to
energy dense and easier
produce
electricity,
to store and transport.
since the 1980s.
While South Carolina
Also, the automotive
has made progress
industry has a foothold
in
improving
its
in South Carolina. This
South Carolina researchers want to work with industry to make
public schools, student
puts the state in a good hydrogen-fueled automobiles a reality.
performance lags the
position to attract the
rest of the nation. “We’re going to need engineers by the
industry’s hydrogen R&D activities, says Patrick Serfass,
bushel,” says Mike Esayian, deputy director of USC’s fuel
director of program and technology development at the
cell research center.
National Hydrogen Association. BMW Group, which has
Finally, it will take patience for investments in hydrogen
operated its massive Spartanburg County plant since 1994,
R&D to yield commercially viable and widely used applicaand DaimlerChrysler AG, which plans to open a van factory
tions. Timothy Considine, a resource economist at
in North Charleston this year, have been working on
Pennsylvania State University, thinks it could be 20 years or
vehicles that use fuel cells and hydrogen-powered internal
more before the hydrogen economy becomes a reality.
combustion engines.
In the meantime, fuel economy improvements and other
Serfass and others say South Carolina needs to foster
technological advances in fossil fuels will continue. “It’s a
partnerships between manufacturers interested in hydrogen
moving target,” Considine says.
— CHARLES GERENA
applications and universities doing the basic research for
CAROLINA BBQ ... AND H2?

South Carolina Jumps on the Hydrogen
Economy Bandwagon

6

Region Focus • Spring 2006

PHOTOGRAPHY: COURTESY OF THE NATIONAL HYDROGEN ASSOCIATION

H

ANOTHER TRIANGLE TALENT

LEAF FALLS

Raleigh Region Rakes in Federal Money

Tobacco Crop’s First Market Year

A

T

public policy group says the Raleigh region is top
dog in the nation when it comes to attracting
federal capital. The Triangle area, which also
encompasses Durham and Cary, pulled in some $789 per
capita in “competitive economic development funding”
in 2003.
Using U.S. Census data, the Public Policy Forum of
Milwaukee, Wis., measured the 50 biggest metro areas by
an unusual yardstick — the ability to pull in federal
taxpayer funds in five categories: business assistance,
such as Small Business Administration loans;
research and development; work force development;
infrastructure
improvements;
and
community
development.
The group found a significant link between percapita income in metro regions and funding for
assistance. (The group did not examine whether the
funding led to higher incomes or simply went to
communities with already high levels of wealth — in
short, whether it was a case of causation or correlation.)
The report is based on 2003 federal economic
development grant data. In 2003, 65 percent of all
federal economic development awards were competitive
grants, loans, or loan guarantees.
Ryan Horton of the Public Policy Forum investigated
the issue to find out how the forum’s home turf,
southeastern Wisconsin, fared when it comes to tapping
the federal cookie jar. He says he looked through the data
and eliminated from the calculations money that’s
automatically granted based on formulas, such as
Community Development Block Grants.
“In today’s regional economy, with scarce resources,
[it’s important to] maximize how you use each pool of
capital,” Horton says. “How well are you competing for
federal dollars?”
Research Triangle Park, its anchoring cities and universities (the University of North Carolina at Chapel
Hill, North Carolina State University, and Duke
University) are like a money magnet. In February, for
example, the U.S. Department of Energy gave the
Research Triangle Institute nearly $1.6 million to spur
hydrogen fuel development, and Duke and UNC
received more than $3 million from the U.S. Department
of Health and Human Services, to name just two.
Other Fifth District metro areas showed up on the
federal top 50. The Baltimore-Washington-Northern
Virginia area ranked sixth, with about $397 per capita;
Greensboro-Winston-Salem-High Point ranked 34th,
with about $155 per capita; Charlotte-Gastonia-Salisbury
ranked 47th, with $79 per capita; and Virginia BeachNorfolk-Newport News ranked 50th, with $68 per
capita.
— BETTY JOYCE NASH

obacco production in the United States fell to about
640 million pounds in 2005, or about 242 million
pounds below 2004, a decline that was expected with the
end of the federal tobacco price support program.
In 2004, federal legislation did away with 1930s-era price
supports for tobacco. Tobacco quota owners and producers
are receiving compensation for their assets through a federal buyout. Many growers, especially those who farmed small
plots exited tobacco altogether; others expanded. There was
a 27 percent decline in tobacco acreage in 2005 over 2004.
Over the years that the tobacco quotas and prices were
set by the government, U.S. tobacco lost market share to
foreign tobacco. Currently, foreign tobacco makes up about
50 percent of the cigarette market.
Kent Hudson of Buffalo Junction, Va., does not grow
tobacco anymore, but he is accustomed to the vagaries of
the business. Hudson now moves curing barns. The tobacco
business has always been like a yo-yo — up and down and up
and down, he says.
Those in the industry hope that prices will stay
competitive so that U.S. tobacco can regain market share.
Blake Brown, an agricultural economist at North Carolina
State University, says prices for flue-cured tobacco rose,
driven partly by another poor crop year in Brazil. “In general,
prices were higher than farmers expected,” he says.
Tobacco farmers are still in transition, says Stan Duffer,
regional market development manager of the Virginia
Department of Agriculture and Consumer Services. “The
margin out here producing tobacco is pretty small,” he says.
“The ones still producing are getting larger for efficiencies
of scale. Some are trying it out to see if we can survive in this
new arena.”
Todd Haymore, a spokesman for Universal Leaf Tobacco,
based in Richmond, says higher fuel costs are boosting
prices too. “Prices had to reflect fuel cost increases,” he says.
“But everybody has to be aware that the United States went
for a number of years pricing itself out of the world market
and we have to work diligently not to repeat that process.”
China could be a huge potential consumer of U.S. tobacco. U.S. Flue-Cured Tobacco Growers, Inc., located in
Raleigh, N.C., served as a secondary market for tobacco,
using government loans to buy and store farmers’ unsold
tobacco. The group sold 13.8 million pounds to China for
about $35.3 million late in 2005, according to the group’s
newsletter. In June 2005 the cooperative’s manufacturing
arm was admitted to the Master Settlement Agreement (in
which cigarette companies agreed to pay the government
$246 billion and change the way tobacco products are
marketed), and it has begun to make cigarettes under brand
names such as Traffic and Kick, Passport and Fact, among
others.
Demand is especially strong for U.S. burley tobacco;

spring 2006 • Region Focus

7

annualized percentage rate of 391 percent
for a two-week loan. This makes it hard for
borrowers to accumulate enough money to
repay the debt, especially for those on tight
budgets — the same people most likely to
be turning to payday loans in the first place.
But the growth in payday lending — the
number of locations nationwide doubled
between 2000 and 2004 to 22,000 —
indicates that there are plenty of people
who are willing to pay a premium to get out
of a short-term cash crunch. “Clearly,
payday lenders exist because people want
the service,” says Harry Davis, a finance
professor at Appalachian State University
and economist for the North Carolina
Bankers Association.
A mechanical harvester gathers last season’s tobacco. Production, as predicted, dropped
Payday lenders say customers like being
during the first year without the government price support system.
able to get their money quickly and easily.
Lenders are conveniently located and don’t require much
exports so far in 2005 are up by 4 percent over 2004. Burley
paperwork. They also don’t probe a borrower’s credit
is grown primarily in Tennessee and Kentucky, but also trahistory, which may be embarrassing to reveal or disqualify
ditionally grown on small plots in southwestern Virginia and
some people for a loan or a credit card advance.
western North Carolina. Some former flue-cured tobacco
In addition, people want to avoid the consequences of
growers in the Piedmont and eastern part of the Carolinas
falling behind on their bills. “To people who are desperate or
and Virginia are taking a gamble and switching to burley.
chronically short of cash, paying $60 to borrow $300 for
Tobacco companies are offering incentives to farmers
two weeks may not sound too steep, particularly if the
who can meet contract amounts, with bonuses for more.
alternative is being evicted or sending their children
Haymore would not discuss Universal’s contracts, but he
to school in tattered clothes,” noted a Winter 2005
says: “I do know those pilot projects in nontraditional
article in AdvoCasey, a policy magazine published by the
areas have gone well, and our folks plan to increase the
Annie E. Casey Foundation. The Baltimore-based nonprofit
amount of burley grown in 2006. Everybody’s looking to
organization focuses on issues facing low-income families.
grow demand.”
— BETTY JOYCE NASH
Finally, payday lenders say their product is a relatively
cheap alternative. A January 2002 survey conducted by the
FILLING EMPTY POCKETS
Consumer Financial Services Association of America, a
trade group representing lenders, found that banks charge
an average fee of $25 per bounced check, while merchants
levy an average fee of $24. For a $100 check, these charges
translate into an APR of 1,278 percent.
orth Carolina is now a payday lending-free zone. Since
Now that payday lending is gone in North Carolina,
the law that permitted the practice expired in 2001,
who will meet the demand for small amounts of short-term
the state attorney general and the banking commissioner
credit? In a word, banks.
went after lenders who stayed in business by partnering
Increasingly, banks are marketing automatic overdraft
with out-of-state, nationally chartered banks. At last in
protection, a different practice than payday lending, that
March, the state’s three remaining major lenders agreed
serves the same kind of customers. For a fee, banks will
to shut down.
cover a check written against an account with insufficient
Some consumer advocacy groups rejoiced. They have
funds, up to a predetermined amount.
long considered payday lending, also known as cash advance
This service can be pricey, depending on how it is used.
or deferred presentment services, a practice that gouges
“A fee of $30 on a $20 overdraft repaid in one week would
the most vulnerable borrowers. In payday lending, the
result in an APR of 7,812 percent,” noted a June 2005 report
borrower writes a postdated check for the loan amount
from the Casey Foundation. “Customers using fee-based
plus a finance charge. The lender doles out the money and
overdraft protection multiple times a month in increments
holds the check to deposit at a future date, typically the
of less than $100 are paying astronomical APRs.” Payday
borrower’s next payday.
lending may be gone from North Carolina, but there are
Critics are alarmed by the payday loan’s relatively
alternatives for borrowers needing quick, easy credit.
short duration (usually two to four weeks) and high cost (a
minimum of $15 per $100 borrowed), translating into an
— CHARLES GERENA

Payday Lending Regulation Tightens,
Other Short-Term Products Emerge

8

Region Focus • spring 2006

PHOTOGRAPHY: T. DAVID REED/VIRGINIA TECH SOUTHERN PIEDMONT AREC

N

Tolls bring home the true cost of roads
BY BET TY JOYCE NASH

W

hen Dave LeBlanc first
moved to the Washington,
D.C., metro area, he
dreaded the 20-mile carpool trip
to his job at the Pentagon from
home in suburban Woodbridge, Va.
Carpools bind schedules. “You are
tied to carpool and a set time,”
he says. “If I want to get off early I
feel bad because I have inconvenienced others.”
LeBlanc’s aversion to carpools is
common: 76 percent of workers
drive alone. Carpooling has declined
from nearly 20 percent of work trips
to about 12 percent since it was
promoted in the 1980s. This is a
disappointing trend as far as transportation
policymakers
are
concerned. Their original thinking
was that people would voluntarily
choose to carpool, thanks to the
incentive of speedy travel in high
occupancy vehicle (HOV) lanes.
But today many HOV lanes are
underused, while single drivers
crowd non-HOV lanes.

Now comes a new traffic congestion solution: HOV lanes may be
converted into HOT lanes, as in
“high occupancy toll” lanes.
Skeptics derisively call them
“Lexus” or “limousine” lanes
because they charge single drivers
for the privilege of scooting into
faster lines of traffic. At the same
time, the spirit of HOV is preserved
as cars with three-plus passengers
ride free.
The prospect of toll money has
attracted private investment. Fluor
Enterprises, a subsidiary of
California-based Fluor Corp., and
Transurban, an Australian firm, are
teaming up to build four HOT lanes
in the center of a 12-lane project on
the Capital Beltway in the D.C.
metro area, a project on Virginia’s
drawing board for some eight years.
Another HOT plan adds a third lane
to the existing HOV system along
I-95/395, and extends those lanes 25
miles farther south on Interstate 95
in Northern Virginia, says Gary

Groat, Fluor’s director of project
development. Tolls,
collected
through a transponder, will vary
according to the number of cars on
the road to ensure free flow.
Pavement wires and sensors count
cars, and when traffic ramps up,
prices rise. It’s basic supply and
demand. “Nobody likes to pay the
toll, but everybody likes the reliability,” Groat says.
The beauty of HOT lanes is that
they charge drivers for congestion
they create. It’s an idea popular
among economists, a pricing tool to
make sure drivers think about how
much roads really cost. Granted,
questions linger about whether
they’ll effectively match capacity
to demand and whether they will
truly bring change to the nation’s
highway system. But with traffic
congestion rising unabated, innovations like HOT lanes are likely to
grow in use. For urban motorists
especially, the “free” ride may be
almost over.P

spring 2006 • Region Focus

PHOTOGRAPHY: TOM SAUNDERS/VDOT

Pocahontas Parkway in Richmond, V
a.

9

Prices Manage Demand
Congestion pricing for roads has
been around in economic theory for
decades, but it’s inched forward only
recently. Drivers have paid gas taxes
since 1932, and in 1956 the highway
bill that created an interstate system
directed the taxes to the Highway
Trust Fund. That’s what has paid for
construction and maintenance.
Infrastructure investments, however,
stagnated in the 1970s. Federal and
state taxes were flat between 1960
and 1980. Once gas prices fell in the
early 1980s, officials hiked gas taxes.
(It was next to politically impossible
to raise the tax during the time of
high fuel prices in the 1970s.)
The gas tax has distributional
problems: People using an expensive,
crowded road pay the same as people
driving a deserted rural one. But the
nation’s reliance on gas taxes to ease
congestion may be coming to an end.
In January, the National Academies’
Transportation Research Board
released a study recommending tolls,
including congestion tolls, to raise
road money rather than through gas
taxes. The Federal Highway

Administration began funding pilot
congestion pricing projects in 1991.
Today, there are five HOT lane
projects operating in three states,
and tolls that vary according to
congestion in six states. For example, express lanes with prices that
vary with congestion link downtown
Minneapolis with its western
suburbs. The highway, on Interstate
394, opened last May. The oldest and
most successful variable pricing
projects are the SR 91 and I-15
projects in California.
“Those two HOT lanes represent
only one-third of capacity but carry
50 percent of the traffic; it moves at
the posted speed limit,” Groat says
of SR 91. And, he adds, by guaranteeing freer flow of traffic, those lanes
actually handle more traffic than
their congested counterparts.
HOT lanes can unclog roads by
tweaking existing infrastructure,
transforming former HOV lanes.
That is no small feat when money’s
tight and rights-of-way are contentious and expensive to obtain.
And innovations like electronic
transponders and pavement sensors

make the tolls practical and nearly
invisible.
“Traffic on roads peaks in the
morning and peaks in the evening;
you could have the toll change
throughout the day,” says Tom
Garrett, an economist at the
St. Louis Fed. Although drivers
probably would like to tune out
this thought, he adds that some
congestion is good, in an economic
sense. “You don’t want a road that is
never congested; it might not have
been worth the cost.”
Few politicians promote prices
for roads, at least not out loud, but
economists like them because they
allocate demand, especially at peak
traffic times. Moreover, they accomplish what the gas tax does not: They
signal to motorists that the roads
they drive are not free. As every
economist knows, seemingly “free”
services will constantly attract
excess demand; in the case of roads,
that means excess traffic congestion.
Think of such pricing as buying your
car a space on the road, as you would
buy a premium parking spot in a
crowded city. Or renting a beach

Paving Southwest Virginia
The labor of road building begins long before dirt is
disturbed. It includes deals, politics, debates, designs, and
money. Lots of that. With demands on the public purse ever
growing along with the commuter clamor for road capacity,
construction can’t keep up.
To spur the process, the Federal Highway Administration
has offered encouragement to private participation, citing
the usual benefit: Profit potential is likely to give firms
incentive to seek efficiencies in time and money. Not
counting extra staff oversight time, the Virginia Department
of Transportation, for example, says it saved $10 million and
$47 million on the Pocahontas Parkway and State Route 288,
respectively, using public-private partnerships.
But the combination doesn’t always work out. A FHWA
grant designated for such road projects was recently
suspended for a proposed $2.3 billion four-lane highway in a
remote edge of southwest Virginia. The road has raised
regional economic hopes with the possibility that new
industries will be lured by the artery, as manufacturing and
mining jobs in the area wane.
The Coalfields Expressway, a 51-mile extension of its
counterpart in West Virginia, was proposed in 1995 to run

10

Region Focus • spring 2006

across three rural Virginia counties. The path to the road’s
construction has been as circuitous and obscure as some of
the mountain terrain it may traverse.
The proposed expressway would run through the
counties of Wise, Dickenson, and Buchanan. The idea is
to extend the road along its counterpart highway in
West Virginia for 65 miles to Interstates 77 and 64 near
Beckley, W.Va.
Funding was suspended because FHWA did not see the
private-sector partner, originally Kellogg Brown & Root,
assuming risk, says VDOT spokeswoman Tamara Neale.
Delays and escalating costs also played a role in the funding
decision. KBR signed its contract with the state over to the
coal companies Pioneer Group, Inc., and Alpha Natural
Resources after doing about $30 million worth of design
work. U.S. Rep. Rick Boucher, D-Va., says the new partnership may allow the grant funds to be restored. “That will
enable the road to be built in an expedited way.”
The partnership between the coal firms and the state will
benefit both parties, says Ted Pile, spokesman for Alpha
Natural Resources. “This road would probably not be built
without the private partnership; this coal wouldn’t be

house during the summer, says Gary
Groat of Fluor Enterprises. “You
guarantee for a purchase price, you’ll
have reliable travel time; price goes
up, people make decisions,” he says.
Prices can change behavior,
agrees Elena Safirova, an economics
fellow at the Washington, D.C.,
think tank, Resources for the
Future. “If you know you have to pay
a lot on that road, you think about
changing your behavior.” People
might walk or bike, ride the bus,
carpool, or take a different route. Or,
they might choose the toll road to
whisk an elderly relative to the eye
doctor or so they can get home in
time to watch a Little League game.
And there’s another upside to road
prices: They raise money.
Fluor Transurban will become a
major investor in both of its Virginia
projects, Groat observes, a first for
the state. Fluor built the tolled
Pocahontas Parkway in Richmond,
Va., which opened in 2002. Before it
opened, motorists coming from
Chesterfield County, a major
Richmond suburb, had no direct
connection to the local airport.

Transurban now wants to buy the
right to run the road — a steady
stream of income for the firm.
A variety of congestion pricing or
toll plans are under way throughout
the world. In Sweden, the city of
Stockholm is testing a system where
drivers pay the equivalent of about
$1.30 to enter or leave in the
daytime. Since 2003, drivers entering
central London pay a “congestion
charge” of 8 pounds, or about $13.80.
Singapore began charging to drive in
that city in 1975; in 1998,
it switched to electronic toll
collection. Austria, Germany, and
Switzerland charge trucks based
on the distances traveled on
intercity roads.
Reflecting the trend, some Fifth
District states (besides Virginia) are
following suit, with varying degrees
of success. In North Carolina, a
newly created toll road commission
is studying up to nine such roads.
North Carolina, with more statemaintained road miles than any
other state except Texas, has no toll
roads. Maryland will expand a
10-mile section of I- 95, adding

mined without this road,” he says, adding that it wouldn’t be
economical. “With the state providing some compensation
for moving the earth, it makes sense for coal companies to go
in and mine some of the reserves.”
The companies, which already own the necessary
machinery, will leave behind a rough grade road bed after
extracting the coal. Details of compensation will be ironed
out during the coming year. No groundbreaking date has been
set. The route of Virginia’s portion of the highway may change
as engineering work is completed over the coming year.
While the road holds out hope for economic progress, it
will immediately benefit commuters. An urban commuter
frets and plans around congestion. A rural commuter worries
and plans around distance. Jobs are scarce in rural America
and could be an hour’s drive. “There is a lot of commuting in
and out of those counties,” says Jonathan Belcher of the
Virginia Coalfields Economic Development Authority.
Mitch Renkow, an economist at North Carolina State
University who studies commuting patterns, says: “What we
see is people traveling farther and for longer times to connect themselves from where they live to where they work.”
The road will be expensive. If the current estimate were
divided by the three-county population, it comes to more
than $27,500 per person. But then, rural roads are always

express toll lanes to ease congestion.
A toll road to Hilton Head Island
in South Carolina is operated by a
private firm. The 16-mile Southern
Connector in the upstate, with
traffic far below projections, was
built in 2001 with some $200 million
in toll revenue bonds. And legislators
in that state have proposed a toll on
a section of I-73, an unbuilt highway
that’s supposed to go to the coast.

Who, Me?
Although people dislike tolling, it
helps compensate for the hidden
consequences (externalities) of
driving. Those include congestion,
car crashes, noise, and pollution.
Kenneth Small, an economist who
studies transportation issues and is
an emeritus professor at the
University of California at Irvine,
says that by themselves, more roads
won’t unsnarl traffic.
“The most popular solution, road
expansion, can work only temporarily
in areas where there is already a
built-up ‘latent demand’ for road
travel — that is, many people who
would like to travel at the most

losers if only the immediate costs and benefits of roads are
calculated. When the interstate highway system was started
in 1956, N.C. State economist Renkow points out, it had a
phenomenal effect on transport. “A lot of economic activity
is affected by facilitating transport,” he notes.
Economic developers flounder without interstate access
nearby. East-west travel in the northern part of the region
will be easier, Belcher says. An hour’s drive from an interstate
becomes a big-time cost when firms investigate sites.
“For any project heavily dependent on transportation,
manufacturing or distribution, they want to be close to the
interstate,” he says. “If you don’t have interstate quality road in
your region, you’re not in serious consideration for projects.
“There’s probably not a month that goes by that we don’t
lose projects because we can’t compete on a transportation
basis,” he says, adding that recently a firm chose Danville, Va.,
over the coalfields region largely because of highway access.
Dickenson County is currently without a four lane road,
the only county in Virginia so lacking. The new highway
would connect travelers with the Breaks Interstate Park on
the Kentucky border. Dickenson and Buchanan counties’
hopes for the road are so high that they have pooled
resources to purchase 1,800 acres close to the proposed
expressway for an industrial park.
— BETTY JOYCE NASH

spring 2006 • Region Focus

11

and the Fifth District, in Columbia,
S.C., even the 1.8 extra minutes tacked
on to an off-peak, 30-minute trip
translates into $143 a year per person.
Another study, “Traffic Congestion
and Reliability” by Cambridge
Systematics, calculates the annual
delay just at the I-495 and I-95 bottleneck in the D.C. area at a total of
15,035 hours.

High occupancy toll (HOT) lanes are proposed for Interstate 495, extending 12 miles
from west of the Springfield Interchange pictured here.

popular times and places but are now
deterred from doing so by congestion
itself,” he says. New capacity eases
congestion, but former road warriors
return, clogging an artery once
more. Convincing the public of the
value of pricing would be the single
most important breakthrough for
dealing with the problems cars
create, Small says.
“[Tolls are] perhaps the only feasible way that will not be undone by
latent demand. They are also useful
for giving drivers incentives to
reduce the external or ‘invisible’
costs they impose,” he says. “They
can be much more useful if they
are designed explicitly with this goal
in mind, instead of just trying to
recover the cost of building roads.”
There are lots of good reasons
to toll. For example, if tolls
are graduated according to car
emissions, then people have
incentive to buy cleaner cars.
When drivers hit the road, they
consider fuel costs, car prices, depreciation, and time. “The problem is
there are other costs I impose on
other people that I do not incur,”
says Tom Garrett of the St. Louis
Fed. For example, more cars on busy
roads worsen congestion and cars
idling in traffic pollute more.
“Because I don’t bear the cost I’m
imposing on others, I tend to overuse the roadway,” he says. Toll roads
force drivers to pay something
12

Region Focus • spring 2006

closer to the full cost of driving.
Drivers in metro areas, and
increasingly on rural roads, do bear
one cost — they get stuck in the very
traffic they help create.
Toll roads charge drivers directly,
so perhaps the toll, by easing gridlock, would offset some of what
drivers already pay indirectly with
their time when stuck in traffic. In
its “2005 Urban Mobility Report,”
the Texas Transportation Institute
calculated drivers’ average wasted
time during peak traffic in the most
congested urban areas at about 47
hours annually. The final tally nationwide is about $63 billion in wasted
time and fuel. Co-authors David
Schrank and Tim Lomax valued wasted time at $13.75 per hour per person,
an updated figure from a former study
that examined actions people might
take (cut through neighborhoods, risk
a traffic ticket, pay a toll) to avoid
sitting in traffic. Schrank and Lomax
stress that the travel index accounts
for only wasted time and fuel, not any
externalities associated with driving.
The costs of emissions, for example,
show up elsewhere — in public health
statistics and environmental problems.
The index calculates that in the
D.C. metro area, it takes 45 minutes
during rush hour to drive a distance
that would take 30 minutes at posted
speeds. The delay is estimated at
$1,278 annually per capita in time and
fuel. At the other end of the spectrum

One of the biggest grudges people
hold against HOT lanes — and toll
roads in general — is the notion that
rich people can buy their way out of
traffic. It just doesn’t seem fair. What
about poor people who can’t afford
the tolls?
Or what, for example, might be
the impact on “slugging,” the informal carpools of total strangers used
by thousands of D.C. commuters?
Slugging gets people to and from
work and supplies occupants for
HOV drivers at the same time. (See
sidebar on p. 18.) Dave LeBlanc, who
turned to the informal slug ride to
avoid the formal carpool, fears the
toll-paying drivers will clog the HOV
lanes even more. “Now it is rare that
you can go 60 miles an hour,” he says.
“My commute has increased 10 minutes from six or seven years ago.” The
slugging advantage will vanish, he
says, as people pay to drive alone
rather than stop for two slugs.
Groat of Fluor, however, believes
the slugging phenomenon will
flourish because drivers will want to
avoid paying tolls, which will average
about 15 cents per mile. Under the
HOT lane scenario, when drivers
see slugs, Groat says, they’ll see
dollar signs.
Elena Safirova and her co-authors
in 2003 studied a hypothetical HOT
lane along I-95 and tried to account
for the problem of fairness by using
different income classes in their
economic model. They concluded
that “all income classes broadly
benefited from the conversion. The
reason is that when you convert
HOV lanes into HOT lanes, you free
capacity you weren’t aware of before
because of this flexibility.”

PHOTOGRAPHY: AL COVEY/VDOT

Worker Costs

Safirova and colleagues also looked
at an existing system of HOT lanes on
I-15 in San Diego. They found that
tolls tended to encourage ride sharing.
Equity issues in that case have also
been studied: Richer people tend to
use HOT lanes more often than poor,
but poor people do use them when
time is important in cases like picking
up children from day care to avoid late
fees. Safirova suggests that some
revenues from HOT lanes could be
redirected to public transit, used
more by poor people without cars.

Private Enterprise,
Public Roads
Some economists advocate a highway
system that provides roads as long as
drivers are willing to pay for them.
But Cliff Winston of the Brookings
Institution worries that policymakers
may fail to properly implement
market-like policies.
He cites an example that emerged
after the sale of the Chicago Skyway,
the elevated connector road between
the Loop and Northwest Indiana.
Talk of reforms in pricing surfaced.
“One of the early things I heard them
do was talk about charging vehicles
according to the number of axles.
That’s the perverse way of pricing.”
Trucks with few axles, like cement
trucks, tear up roads, and need
incentive to add more axles. “We have
this opportunity with a new authority
. . . and they did exactly what you
don’t want to do.”
Some transportation economists
advocate
privatizing
urban
transportation (including roads,
buses, rail) to insulate the issue from
politics, which can promote roads
where costs far outweigh benefits.
Sometimes even toll roads lose
money because it’s unpopular to raise
toll prices. Winston isn’t sure that the
current climate favoring congestion
pricing points to transportation’s exit
from the political arena.
“Highway transportation is a
major way elected officials reward
their constituents and they don’t
want to give this thing up,” he notes,
adding that state officials are nevertheless glad to see the private money

The Commute
It takes most of us about 26 minutes to get to work, which is not much longer,
really, than the almost 22 minutes we averaged in 1980 and only slightly more than
the 22.4 minutes it took in 1990. Of course, variances abound. For every worker
who walks a few blocks to the office from a downtown condo, there’s another who
drives solo upward of an hour from a big home in an exurb.
This map of the Fifth District shows that suburban and rural dwellers face
some of the lengthiest commute times. Few communities have it worse than
Charles County, Md., where about 42 percent of all workers cope with a commute
of more than 45 minutes, with most of them headed into metro Washington, D.C.
The story is similar in Stafford County, Va., another D.C. suburb, where more
than 38 percent of workers face a 45-minute or longer commute. Ditto for
Prince William, Va., and its 37 percent of workers traveling more than 45 minutes
to their jobs.
But the longest commute of all in the Fifth District is found in Amelia County,
Va. In this central Virginia locale about 40 miles from Richmond, almost half of all
workers — 49 percent — travel 45 minutes or more to the office. This is not all
that surprising: Across the Fifth District, many of the counties with the longest
commuting times are in rural areas. People in Clay, Hampshire, or Lincoln
counties in West Virginia spend from 39 to 45 minutes commuting. And folks in
Mathews, Amelia, Warren, Surry, Buckingham, and Rappahannock counties in
Virginia have an average commute ranging from 39 to 46 minutes.
On the other end of the scale is Lexington, Va., where a paltry 4 percent of
workers travel more than 45 minutes to work. The living is also easy in North
Carolina’s Triad region, where only 7 percent of workers commute longer than 45
minutes, and metro Columbia, S.C, ringing in at just 7 percent.
— BETTY JOYCE NASH

SOURCE: U.S. Census Bureau

spring 2006 • Region Focus

13

site, www.slug-lines.com, is loaded with lists of slug lines
Drivers and slugs are bound by mutual need. Drivers need
and even has destination signs for sluggers to print and
extra riders to get into HOV lanes; slugs need rides. Slugs
hold when waiting for rides. The site also includes a
are commuters of all ages and professions — people just
message board where sluggers post questions and tell
out of college and people past retirement age. The first
stories, especially about current issues, including HOT
slug lines are anecdotally reported to have formed somelanes. (Most of the sluggers on slug-lines.com appear wortime after HOV lanes were established on I- 95,
ried about extinction.)
in 1969.
“The message board has done a lot for the slugging
In 1996, Dave LeBlanc stared at the slug lines for about
community,” LeBlanc says. “New slugs and vintage slugs
one week before he decided to join. He had recently
can host a question on there. Before the message board,
moved to the D.C. area and waited for the bus that would
people would e-mail me.”
take him to the Pentagon, where he was stationed. He’d
The sluggers follow an informal code of ethics:
heard tales about this informal carpool of complete
Rule No. 1: No one offers money.
strangers that supplies single drivers with occupants for
Rule No. 2: It’s understood that you don’t talk once
entry onto the high-occupancy vehicle lanes.
you get into the car, except to say hello or thank you
“It seemed so far-fetched and crazy. I wasn’t going to do
very much. It’s understood that the instant carpool is
that,” he remembers. That first day of commuting, he
simply a way to get to and from work, not to socialize.
drove to the Tackett’s Mill stop in Woodbridge, Va. He
Rule No. 3: You don’t talk on your cell phone. But it is
parked in the commuter lot.
acceptable to call and
“Across the street I
say you’re going to
saw all these people
be late if it is a long
getting into cars and
commute, LeBlanc says.
leaving,” he says, and
Rule No. 4: You don’t
wondered whether it
change
the
radio
was a slug line. A week
station, but most of the
of paying for a slow bus
drivers will ask if you’re
ride convinced LeBlanc
too hot or too cold.
to take up “slugging.”
Rule No. 5: You don’t
His commute is about 35
ask for curbside service.
to 40 minutes, but the
“If you’re going to
bus ride would be 15 or
some place in Crystal
20 minutes longer.
City that’s away from
Driving solo would take
the normal drop off,
even more time. As it is,
you don’t say, ‘Well,
he saves 15 to 20 min- Early-morning commuters to Northern Virginia often prefer “slug” lines to
can you take me over to
utes each way plus the traditional carpools or mass-transit commuting. “Slugs” wonder about the
this corner?’ ”
cost of the fare. effects of congestion tolls on their informal carpools.
Rule No. 6: You don’t
“Slugging drops me off
cut the slug line. LeBlanc says it’s surprising how
almost at the front of my building.”
careful most people are to observe the self-regulating
LeBlanc wrote the book on slugging. Really. When he
system.
started slugging 10 years ago, there was nothing but word
However, check the Web site for the occasional rule
of mouth to alert potential passengers of stops and
breaker. The slugging stories are priceless.
changes in schedules. “I would slug from Tackett’s Mill to
Slugs seem so civilized and orderly, but for all
the Pentagon and then hop on the Metro and go to
that, they have a most unattractive name. Here’s the story:
Rosslyn,” he recalls.
When slugging first began, commuters waited
One afternoon on the walk to the Metro at Rosslyn, a
for drivers at established bus stops. But bus drivers
co-worker told him a new slug line had formed nearby.
couldn’t distinguish the instant carpoolers from bona fide
LeBlanc wondered why there were no signs or brochures
bus riders. The bus drivers would stop only to
to inform people about slug sites. His colleague suggested
be waved off by the waiting “fake” bus riders. The
he write a book.
bus drivers started calling the carpoolers “slugs,” after the
“It’s just people standing in a line,” LeBlanc says, so you
counterfeit coins that bus passengers occasionally tried to
don’t know if they’re waiting for rides or a bus or
pass off as real. They weren’t real bus riders or even real
something else. LeBlanc published the book and launched
carpoolers, they were counterfeit riders. — BETTY JOYCE NASH
the Web site in 1999. The book is out of print; the Web

14

Region Focus • spring 2006

PHOTOGRAPHY: REBECCA SELL/FREE LANCE-STAR

Creative Commuting

rolling in to fund projects. “But the
public sector still has strong oversight. Don’t expect to see too much in
the way of major changes in efficiency
of roads.”
Private investment seems to be
moving projects along faster, though.
Infrastructure projects are over
budget in time and money, evidence
suggests. Although it’s hard to predict
traffic accurately, economist Kenneth
Small comments that there is a
tendency to overestimate traffic and
underestimate costs. This bias probably stems from a desire to get projects
going. “This bias affects both public
and private projects, but seems to be
worse for public projects, presumably
because those cases are less likely to
be disciplined by financial institutions with real money on the line.”
Virginia was one of the first states
to approve public-private partnerships in highway construction.
Enacted in 1995, its law allows the
Virginia Department of Transportation to contract with firms to
“construct, improve, maintain, and/or
operate qualifying transportation
facilities.” Proposals under negotiation
in Virginia include truck toll lanes on
I-81, the new HOT lanes in Northern
Virginia, and a project in the
Hampton Roads area.
Pocahontas Parkway, the abovementioned 8.8 mile connector road
just outside of Richmond, was built
with $354 million in tax-exempt toll
revenue bonds and opened in 2002.

In a case of bad timing, it was just
as air travel tanked following the
terrorist attacks of Sept. 11, 2001.
Traffic fell well below projections,
and operators hiked the toll. While
the price increase cut into the traffic
by about 5 percent, revenue rose by
30 percent. “In our favor is the higher
cost of gasoline,” says James Atwell,
president of the Pocahontas Parkway
Association. “When you take the old
way to go to the airport, you’re going
to burn a gallon of gas.”
Atwell, who is former chief
financial officer of VDOT, says other
foreign firms like Transurban are
shopping for public infrastructure in
the United States. In 2005 the firm
paid $1.83 billion for a 99-year lease
on the Chicago Skyway, an amount
that comprises 70 percent of its
annual city budget, according to estimates by the Reason Foundation,
a free-market think tank based in
Los Angeles. A Spanish-Australian
partnership paid $3.85 billion for the
right to operate the Indiana Toll Road
for 75 years earlier this year.

Details, Details
With deferred infrastructure investment, there is growing interest in
using private money to build or
operate toll projects. “Everybody’s
grappling to find money to meet
those needs,” Atwell says. “In the
1980s there was public will and
political will to raise taxes; it has not
occurred in the last 20 years, and that

has turned people in the direction of
public-private partnerships, tolls, and
more esoteric solutions to meet
transportation infrastructure needs.”
Selling or leasing toll roads and
bridges sounds like a good idea. But
like all good ideas, details matter.
Robert Poole of the Reason
Foundation comments that details in
concession agreements can spell out
what the private firm can and can’t
do, including limiting toll rates or the
return on investment to prevent
exploitation and monopolies.
Stickiest, though, is the noncompete clause. If the state can build
a highway nearby, it can erode traffic
on the toll road. “So in order to get
toll roads built, state DOTs generally
agree to not compete too directly,”
he says. This happened with the
SR 91 highway in Orange County,
California, and the county ended up
buying out the franchise.
The pay-as-you-drive point of
view is starting to hit home with
urban commuters. Most spend about
26 minutes twice a day every day in a
car getting to and from work. Urban
life typically revolves around a
commute.
“When I moved up here,
everybody wanted to know, ‘Where
are you going to work and where are
you going to live? How are you going
to get to work?’” LeBlanc says.
Soon more commuters like LeBlanc
will consider a new option: congestion tolls.
RF

READINGS
Flyvbjerg, Bent, Mette Skamris Holm, and Soren Buhl. “How
(In)accurate Are Demand Forecasts in Public Works Projects?”
Journal of the American Planning Association, Spring 2005, vol. 71,
no. 2, pp. 131-144.
Gomez-Ibanez, Jose, William B. Tye, and Clifford Winston (eds.).
Essays in Transportation Economics and Policy. Washington, D.C. :
Brookings Institution Press, 1999.
“International Perspectives on Road Pricing.” Report of the
Committee for the International Symposium on Road Pricing,
Transportation Research Board of the National Academies,
Washington, D.C., 2005.
Safirova, Elena, Kenneth Gillingham, Winston Harrington, and
Peter Nelson. “Are HOT Lanes a Hot Deal? The Potential

Consequences of Converting HOV to HOT Lanes in Northern
Virginia.” Resources for the Future, 2003.
Samuel, Peter. “Should States Sell Their Toll Roads?” The Reason
Foundation, May 2005.
Schrank, David, and Tim Lomax. “The 2005 Urban Mobility
Report.” Texas Transportation Institute, May 2005.
“Traffic Congestion and Reliability: Linking Solutions to
Problems.” Cambridge Systematics Inc. and the Texas
Transportation Institute for the Federal Highway
Administration, July 2004.
Winston, Clifford, and Chad Shirley. Alternate Route.
Washington, D.C.: Brookings Institution Press, 1998.

spring 2006 • Region Focus

15

Amtrak’s Acela Express is the only high-speed
rail service in the United States, linking
Boston, New York, and Washington, D.C.

Optimism meets reality in the pursuit of high-speed passenger rail in the Southeast

N

ov. 8, 2000: The ALLTEL
Pavilion at the Siegel Center, a
Richmond, Va., venue that
usually hosts rock concerts and college
basketball games, has a different crowd
of fans today. Their attire is more formal — the suits and ties of business
leaders and government officials — but
their enthusiasm is just as high. They
want to bring high-speed passenger rail
to the Southeast.
“We no longer recruit on the
strength of our work force and manufacturing base. The way to sustain our
prosperity is related to the quality of
life, of which intercity rail is a pivotal
part of the equation,” declared David
King, deputy secretary for transit with
the North Carolina Department of
Transportation (NCDOT). Josée
Covington, a travel industry executive
and chair of the committee that organized the conference, was equally
enthused: “The cornerstones of success
for rail transportation are economic
development and quality of life.”
16

Region Focus • spring 2006

At the time, the country was flush
with budget surpluses. There were no
soldiers fighting in Iraq or workers
rebuilding a hurricane-ravaged Gulf
Coast. It was an opportune time to
push for federal funding of 10 regional
high-speed rail systems designated by
the U.S. Department of Transportation
since 1992.
One of the systems was the
Southeast High-Speed Rail Corridor,
which would link dozens of cities
between Washington, D.C., and
Jacksonville, Fla. Stops would include
Richmond and Petersburg in Virginia;
Raleigh and Charlotte in North
Carolina; and Spartanburg and
Columbia in South Carolina. With
Washington as the connection point to
Amtrak’s popular Northeast service,
the Southeast corridor was touted as
the one that could generate the most
revenue from passenger fares.
Six years later, however, there is no
federal source of capital funding for any
of the 10 proposed corridors. Rather

than wait for Congress to act, individual
states slogged ahead. They spent billions of dollars to study the feasibility
and environmental impact of highspeed rail and to improve existing rail
infrastructure. The Federal Railroad
Administration has provided oversight
and some planning and preconstruction
grants, including $2 million to Virginia
and North Carolina.
The two states, working under an
interstate compact since 2004, are
developing segments of the Southeast
corridor between Washington and
Charlotte. So far, their transportation
departments have completed several
preliminary studies and are in the midst
of examining proposed routes for the
Richmond-to-Raleigh segment. In
addition, they have spent or committed
more than $300 million of their own
money to modernize existing tracks in
the Washington- to-Richmond and
Raleigh-to-Charlotte segments. These
improvements will benefit current passenger and freight service, but they will

PHOTOGRAPHY: COURTESY OF AMTRAK

BY CHARLES GERENA

also support faster train service in the
future. South Carolina and Georgia have
completed feasibility studies on their
segments, but they aren’t as far along in
the process.
It will take time to create a better
rail alternative to air and road travel in
the Southeast. The earliest that highspeed passenger service could possibly
be operational between Washington
and Charlotte is 2012, then it would be
extended southward. It will also take a
lot of money — around $5 billion by
some estimates. Complicating matters
is the lack of enthusiasm among freight
railroads about sharing their tracks
with high-speed trains or footing the
bill for infrastructure upgrades.
Rail advocates believe the deciding
factor will be getting Uncle Sam to
pitch in. “The states are already
committing significant sums to develop
their rail systems,” says David Foster,
rail environmental programs director
for NCDOT’s rail division. “We are just
asking for the same federal partnership
we have with highways and airports.”
Federal cost-sharing on major
transportation projects historically has
been as high as 80 percent.
Y it appears that the states are no
et
closer to their goal. Several high-speed
rail bills languish in legislative limbo
despite the lobbying of groups like the
States for Passenger Rail Coalition. The
enthusiasm on display in Richmond
six years ago has been tempered by
political, logistical, and economic
questions about high-speed rail.
To secure any federal assistance, rail
planners will have to show that the
Southeast corridor will yield public
benefits and help pay for itself like toll
roads and airports are expected to do.
But it’s unclear how much demand
exists for passenger rail service. For the
type of medium-length trips that would
be the staple of the Southeast corridor,
most people prefer to either drive or fly.
And, for lower-income passengers, bus
service remains relatively popular.
Will a significant share of those people make the switch to rail? Many
economists and transportation experts
are doubtful. Amtrak has been unable
to gain much market share in this

region and operates habitually in the red. In
addition, private companies have been reluctant
to fund similar projects.
High-speed rail in the
Southeast may sound
good to some policymakers, but it’s not clear that it
can pass the market test.

Linking the Southeast
The proposed high-speed rail corridor for the Southeast
would stretch more than 850 miles. Planners hope to
have the segments between Washington and Charlotte
(indicated in red) in operation
by 2012, assuming Uncle
Sam provides capital
funding.

One Rail at a Time
Planners of the South-east
High-Speed Rail Corridor
want to make infrastructure improvements that
will gradually, yet meaningfully, reduce travel
times for intercity passengers. They hope that if rail
becomes
competitive,
some of the travelers who
drive or catch a flight will
board a train instead. This
would contain the growth
in congestion on interstates and at hub airports.
The goal is for passenger trains in
the Southeast corridor to achieve an
average speed of 85 mph to 87 mph and
a maximum of 110 mph. The proposed
trains wouldn’t be comparable with
“bullet trains” like those found in Japan,
which go 186 mph. But they would
be quicker than today’s service in the
corridor, which tops out at 79 mph.
According to state officials, faster
trains could shave about 40 minutes off
the current two-hour rail trip between
Washington and Richmond. The same
journey by car takes about two hours
and the fastest direct flight between
these cities is 49 minutes, which doesn’t
include getting to and from airports.
The Southeastern Economic Alliance, a
coalition of chambers of commerce
that supports rail development, did its
own research and also found that highspeed rail can be time competitive.
The key, they believe, is to create
more frequent, more reliable service
between densely populated areas that
are no more than 300 miles apart.
Other transportation experts have
concluded that travelers going longer
distances are more likely to fly, while

SOURCE: NCDOT Rail Division

those traveling less than 150 miles are
more likely to stick with driving.
Rail advocates contend that
automobile trips along congested intercity corridors like I-95 have become
stressful and time-consuming. Short
plane trips aren’t any better: Travelers
have to arrive an hour or more before
their flights to leave time for security
checks and boarding. In contrast, rail
stations are located inside of cities,
often near downtown business
districts, and trains are easier to board.
On the other hand, economic
activity is more dispersed than it used
to be. “People don’t go downtown in
great numbers,” argues David Levinson,
a civil engineering professor at the
University of Minnesota who has
studied
transportation
systems.
Consequently, many business travelers
arriving in a city by rail would have to
reach their final destination using other
public transportation.
Also, while some interstates are
traffic-choked, Levinson contends that
most road congestion occurs on local
streets within major cities. By 2020,
though, the Federal Highway

spring 2006 • Region Focus

17

Which is Faster?
High-speed trains in the Southeast would make a big
difference for Amtrak passengers heading to Charlotte.
But their ability to compete with other transportation
modes depends on the length of the trip.

Washington to Charlotte (399 miles)
8

7:50

H OURS :M INUTES

6:50

6:31

6
4
2
1:14

0

Amtrak

High-Speed
Rail

Car

Air

Charlotte to Greenville, SC (103 miles)

H OURS :M INUTES

8
6
4
2

2:09
1:27

1:50
0:39

0

Amtrak

High-Speed
Rail

Car

Air

NOTES: Mileages are driving distances between cities. Amtrak and air
travel times based on the shortest direct service available as of 2/3/06.
High-speed rail travel times are the longest estimated times as
determined by planners.
SOURCES: Planning documentation for the Southeast High-Speed Rail
Corridor from 2002 to 2004, Amtrak, Rand McNally, OAG Worldwide

Administration projects that traffic
problems will spread to intercity
corridors throughout the Eastern
Seaboard. That’s only 14 years away.
State and federal officials have made
educated guesses of how well faster
passenger rail could lure motorists and
frequent flyers. A 1999 feasibility study
prepared by NCDOT concluded that
existing rail ridership and revenue
would increase if faster service ran
between Washington and Charlotte.
For example, increasing train speeds to
100 mph and increasing the number of
round-trip trains would induce an
estimated 300 percent increase in trips
and a 600 percent increase in revenue
compared to what Amtrak achieves
with its Carolinian and Piedmont
services.
Of course, these are just estimates.
The only real-life example of high18

Region Focus • spring 2006

speed train service in the United
States is Amtrak’s Acela Express.
Reaching a maximum speed of 150
mph, this service between Boston
and Washington attracted more
than 2 million passengers annually
for several years. (Ridership fell to
1.7 million in 2005 after technical
problems suspended service for
three months.) Acela has helped
Amtrak capture about half of the
passenger traffic going by air or
rail carrier between New Y and
ork
Washington and 14 percent of all
intercity traffic.
Those numbers may not sound
great, but rail advocates contend
that they’re pretty good considering the current quality of Amtrak
service. According to the Federal
Railroad Administration, approximately one-third of Carolinian
and Piedmont trains are late.
“The freight railroads control the
dispatch system, so the passenger trains are often delayed
because of freight needs,” explains
NCDOT’s David Foster. “From a
business standpoint, we have
nowhere to go but up.”

Making It Work

This brings up another issue that
must be addressed in order
to make the Southeast High-Speed Rail
Corridor work — balancing faster
passenger trains with existing freight
service.
Arguably, business travelers place a
higher premium on time than freight
railroad customers do. After all, a lot of
time-sensitive cargo already travels
by truck or air instead of by rail.
But faster passenger service may put
scheduling demands on CSX and
Norfolk Southern — the Southeast’s
biggest freight railroads — which they
won’t tolerate.
“Our customers are very demanding
[and are] asking us to make our service
more reliable,” noted John Snow, former CSX chairman and CEO and
current Treasury secretary, at the 2000
high-speed rail conference in
Richmond. “We can’t readily turn our
rail lines over to passenger service while

growing the freight network.” Four
years later, Norfolk Southern’s former
chief executive, David Goode, echoed
Snow’s concerns about freight capacity
in a speech he gave in Washington. But
he expressed his willingness to work
with rail planners to develop highspeed passenger service, as long as
certain conditions were met.
For example, liability issues would
have to be resolved. As part of its
agreement with the railroads to use
their tracks, Amtrak currently pays for
any claims arising from derailments and
other accidents, even if the tracks are
to blame.
Foster is more optimistic. While
the corridor will pose scheduling
challenges, he says that its design
will accommodate freight traffic. For
example, passing sidings would be
installed approximately every 10 miles
along the single-track system. These
five-mile-long stretches of parallel track
would enable one train to divert its
course while another train passes in the
opposite direction. Neither train would
have to substantially slow its speed.
Planned improvements for highspeed passenger service might benefit
freight service. But the railroads haven’t
done the work themselves, which
suggests that they don’t value the
“benefits” as highly as rail advocates
would like to think. “While improving
the track would benefit us in terms of
freight handling and capacity, it would
not be of significant benefit to warrant
us paying for it entirely ourselves,”
says Norfolk Southern spokesman
Robin Chapman.
Some rail experts suggest building
a separate network for high-speed
passenger service, which is what
countries in Europe and Asia have done
over the last 40 years. That wouldn’t be
easy to do in the United States.
The environmental permits and land
acquisitions necessary to build a new
rail system from scratch would be
difficult and expensive to obtain. While
planners could use existing rights of way
or defunct lines where rails have been
replaced with weeds, not all of them
connect destinations where people
want to go.

Foster says that a separate rail
network would be necessary only
to attain speeds of up to 150 mph.
But ridership revenue models
show that faster trains wouldn’t
generate enough additional fares to
offset the additional expense, which
would be substantial. “We really get
the most ‘bang for the buck’ by
increasing the slow points in the
system,” he notes.
Assuming that states could
gradually establish a competitive,
high-speed passenger service in the
Southeast using existing rail networks,
that infrastructure will require a lot of
retooling. Faster, lighter trains can’t
run on the same tracks used by slower
Amtrak trains and even slower,
heavier freight trains. Therefore,
track upgrades will be required, such
as installing more durable concrete
ties and banking curves so that highspeed trains don’t have to slow down.
Other improvements will ensure
public safety, such as new signals and
separations at crossings where roads
and tracks intersect at grade level.
In some instances, engineering
changes
aren’t
possible
and
high-speed trains would have to slow
down, limiting the time savings. In
other cases, modifications are
possible, but they would be extensive.
For example, about one-third of the
365 miles of track along the Southeast
corridor’s
Charlotte-to-Macon
segment would have to be relocated
and straightened in order to accommodate a 110-mph maximum speed.
And half of the crossings in South
Carolina don’t have any signaling
system, contributing to accidents like
the derailment in January 2005 that
released chlorine gas near Aiken, S.C.,
and killed nine people.

The Economics
Even given the significant capital
investments necessary to make it
feasible, some officials and the
Southern Economic Alliance still
believe that high-speed passenger rail
could be profitable on an operating
basis. Capturing less than 2 percent of
trips along the busy Southeast travel
corridor would be enough to do the
trick, according to Foster.
If that’s the case, why haven’t private
companies done it? Projections of
operating profits rely on rosy estimates
of the number of travelers willing to
embrace high-speed rail and capital
costs. Research on major public
projects, including rail systems,
indicates that demand usually ends up
lower than projections and capital
investments end up higher.
Also, passengers may not want to
bear the full cost of building and
running high-speed rail service. This
has been the case with light-rail transit.
According to research by Molly
Castelazo and economist Thomas
Garrett at the Federal Reserve Bank of
St. Louis, fares cover only 19.4 percent
of the operating expenses for
Baltimore’s light rail system, 21 percent
of costs for Buffalo’s system, and
28 percent of costs for St. Louis’ system.
Initial studies by the planners of the
Southeast High-Speed Rail Corridor
indicate that the service would cost
20-22 cents a mile. However, the
Southeastern Economic Alliance thinks
that high-speed rail would have to be
priced at more than twice that rate in
order to be feasible. (In contrast, air
travel costs 22-75 cents per mile and
auto travel costs 30-35 cents per mile.)
Even James RePass of the National
Corridors Initiative, a strong supporter
of passenger rail, admits that ticket

sales alone can’t recoup capital costs,
nor can they cover all operating
expenses. “Rail systems can generate a
lot of cash and, perhaps, cover the cost
of the train crew, but they will never
make the cost of depreciation of the
equipment,” he says. Indeed, only the
Metroliner and Acela Express services
in the Northeast make an operating
profit from passenger revenues alone,
according to Amtrak figures.
So advocates have pushed for
federal subsidies of high-speed passenger rail, which would spread the cost
over a broader population. In order to
justify such subsidies, it helps if there
are broad public benefits.
Y the potential benefits of highet
speed passenger rail are hard to
substantiate, and those that are most
widely cited tend to be local. For
example, it has been touted as a way
to revitalize downtowns and spur
development near train stations in less
urbanized areas.
Economists have varying opinions
on the role of transportation in
economic development. Building a new
transportation system may influence
the location of economic activity, or it
may merely support activity that was
already taking place in a community.
Worse, excessive investments in
transportation may divert resources
from more productive pursuits.
In the end, though, the biggest
obstacle facing high-speed rail projects
may simply be that only a small segment
of the population finds traveling by
train desirable. “Rail had a chance to
develop a following” but consumers had
better transportation choices available,
notes David Levinson of the University
of Minnesota. “It would be very
expensive to create a competitive
system, and it’s very risky.”
RF

READINGS
Levinson, David, et al. “The Full Cost of High-Speed Rail: An
Engineering Approach.” The Annals of Regional Science, May 1997,
vol. 31, no. 2, pp. 189-215.

Moyer, Neil E. High-Speed Ground Transportation for America.
Washington, D.C.: Federal Railroad Administration,
September 1997.

Litman, Todd. Rail Transit in America: A Comprehensive Evaluation
of Benefits. Victoria, British Columbia: Victoria Transport Policy
Institute, April 2005.

Pinkston, Elizabeth. The Past and Future of U.S. Passenger Rail
Service. Washington, D.C.: Congressional Budget Office,
September 2003.

spring 2006 • Region Focus

19

TRADE
The United States and other nations have turned to antidumping
policies as their preferred instrument for trade protection. But
critics say the policies are both ineffective and misapplied
BY DOUG CAMPBELL

S

ometime in the upcoming
months, Robert Maricich will
find himself in what he
acknowledges is a peculiar position.
His company, Century Furniture of
Hickory, N.C., will receive a check
from the U.S. government for its share
of antidumping duties on imported
wooden bedroom furniture from
China. It won’t be a terribly large
check, as the margin — or price adjustment between “dumped” and
domestic merchandise — is a low 6.6
percent and Century accounts for just
a small piece of the eligible U.S.
wooden bedroom furniture market.
But the money is Century’s due for
joining in an antidumping petition
three years ago that claimed Chinese
imports were priced at predatory
levels, creating what the U.S.
Department of Commerce deemed an
uneven trading field.
The peculiar part: Century
Furniture is a frequent importer of
Chinese wooden bedroom furniture
itself. “Probably 20 to 25 percent of our
wood business is pure imported product,” says Maricich, whose office is on
the back end of a 1 million square foot
factory. “We pay the duties just like
everybody else does.”
That means some of the antidumping proceeds it stands to collect used
to be Century’s own money. Like a lot
of other U.S. furniture firms, Century
supplements its domestic production
with cheaper foreign imports. And
20

Region Focus • spring 2006

these are many of the same firms
claiming that they are being harmed
by unfairly priced imports. As one critic put it: “Are petitioners really calling
on the federal government to stop
them before they import again?”
In the relatively brief history of
U.S. antidumping trade practices, the
case of wooden bedroom furniture
from China is one of the most infamous. And the seeming incongruity of
domestic producers paying import
duties from one pocket and collecting
duty revenues in the other plays only a
bit part.
The U.S. furniture industry, whose
hub remains in North Carolina and
Southside Virginia, was (and is) divided over support for the protection.
Furniture retailers and several leading
domestic producers oppose the petitioning producers. The rift is less
about trade, analysts say, than how different players in the furniture market
were gaming U.S. trade policy for their
hoped-for advantage.
The theory behind antidumping
laws is that they prevent foreign competitors from using rock-bottom
prices to drive domestic firms out of
business. Once they have gained
monopoly power, the thinking goes,
foreign firms can then hike prices to
the roof. In this scenario, both domestic businesses and consumers could be
hurt. It is for this possibility that the
mantra of “fair trade” often trumps its
“free” counterpart.

The problem with antidumping
policy, a broad range of economists
agree, is that it ensnares business practices that go well beyond actual
predatory pricing. In particular, economists argue that antidumping
remedies hurt the domestic economy
as a whole, even as they may benefit a
handful of protected industries.
Economists also question whether
dumping and predatory pricing are the
threats they’re cracked up to be. U.S.
workers often are more productive
than their foreign counterparts. This
means that the cost differential
between running a business domestically and one overseas is not as high as
a quick look at wage rates would
suggest, especially when the products
require relatively high-skilled labor.
Even if domestic producers are temporarily driven out of business, what’s
to stop homeland firms from sprouting
up anew to try to undercut the monopoly prices of the foreign firms?
“Antidumping helps some companies stave off imminent decline,” says
Dan Ikenson, a trade policy analyst
with the Cato Institute. “But most
economists worth their weight
recognize the costs of antidumping
protection far outweigh the gains.”
Still, what do you do if you are
Century Furniture’s Robert Maricich?
He says he has to pay higher wages and
deal with regulations his overseas
competitors never face. And don’t
even get him started on what he sees as

currency manipulations going on in
China. Meanwhile, flattening sales are
threatening company jobs. His
employees own about one-third of the
company. To Maricich, supporting
the antidumping investigation was a
clear strategy.
“Frankly, the idea of free trade is
fantastic but the reality is almost
laughable,” says Maricich, who is
also serving as 2006 chairman of
the American Home Furnishings
Alliance.

Fair Trade?
Antidumping has existed as legislation
in the United States since 1921, but it
only emerged as a leading instrument
of trade protection in 1980. It was one
year after the conclusion of the Tokyo
Round of worldwide trade talks, at
which antidumping rules were loosened to include sales below cost, not
just alleged price discrimination. (By
definition, price discrimination is
when a firm charges different customers different prices for the same
product.)
At the same time, increased global
trade along with greater international
trade organization discipline — under
the auspices first of the General
Agreements on Tariff and Trade
(GATT) and then, post-1994, of the
World Trade Organization (WTO) —
made governments less willing or able
to raise traditional tariffs or quotas in
response to imports.
In the 1980s, more than 1,600
antidumping cases were filed worldwide, twice the filing rate of the 1970s.
Filings in the 1990s spiked at more
than 300 in 1992 and then peaked in
2001 at more than 350, with members
of the European Union and the United
States the top filers.
U.S. firms got extra incentive to file
antidumping petitions in 2000 with
the passage of the Continued
Dumping and Subsidy Offset Act,
informally known as the Byrd
Amendment after its sponsor, Sen.
Robert Byrd, D-W.Va. The Byrd
amendment allowed U.S. companies to
keep revenue from import duties
imposed on their foreign competitors,
instead of having it go to the federal

government as before. “A domestic
producer gets a huge incentive to file
an antidumping investigation,” says
Meredith Crowley, an economist who
studies trade policy at the Federal
Reserve Bank of Chicago. “If you succeed, you not only get protection from
imports but you actually get a subsidy
from foreign producers, so it’s a huge
financial gain.”
(Bowing to pressure from WTO
members and even the White House,
lawmakers repealed the Byrd amendment in December. But the payments
will continue until 2007.)
In the only analysis of its kind,
Bruce Blonigen, a University of
Oregon economist and leading trade
policy analyst, put the 1993 welfare
loss of U.S. antidumping policy at
between $2 billion and $4 billion,
(which in today’s currency would
top out at close to $5 billion). While
usually a boon for select domestic
industries, antidumping duties impose
costs on consumers by making them
pay higher prices. Even bigger in terms
of economic magnitude are the effects
on downstream industry participants.
The steel industry, for example,
has historically been the biggest
petitioner for antidumping duties,
with almost half such tariffs imposed
on steel imports. But downstream
from the approximately 160,000
steelworkers who benefit from such
duties are millions more who work in
metal products and auto parts firms.
In a recent article for the American
Enterprise Institute, economists
Gregory Mankiw and Phillip Swagel
noted that for every steel industry job
saved by tariffs, three downstream
steel industry jobs are lost.

The Process
An antidumping measure takes two
parts: First, to show injury to the
affected industry; second, to confirm
that dumping is happening. About half
the time, the U.S. International Trade
Commission agrees with petitioners
that they are being injured, according
to Blonigen. That’s the first part. Then
comes the dumping evaluation. And
“almost always” the Department of
Commerce finds dumping, he says.

The average dumping margin during
the 1990s was 60 percent.
After the Commerce Department
makes a final determination of
dumping and sets the margin, responsibility for enforcement goes to the
U.S. Customs and Border Patrol.
Customs won’t let imported goods
under antidumping orders into the
country until the margin is paid or
cash deposits are in place to cover
the duties.
Does
the
Department
of
Commerce set a too-low bar for determining “predatory”? All a domestic
firm has to do is show that a foreign
company is selling a product in the
United States at prices lower than in
its home country. But there could be
many strategic business reasons why
a foreign firm would do that, most
having nothing to do with trying to
gain monopoly power. Sometimes
marketing considerations come into
play. Sometimes, when firms are
selling below their total costs, they are
still pricing below their variable costs
— but it still gets judged as dumping
through the lens of antidumping rules.
In other cases, a foreign producer may
be charging more in its home market
because there it is selling to smaller
vendors, whereas in the United States,
it is selling to big retailers.
Meanwhile, incentives are distorted.
Domestic producers might keep
prices artificially inflated for the
purpose of demonstrating that a
foreign company is setting prices
too low. Or, as Blonigen suggests, it
may prematurely lay off workers to
signal distress in advance of an
antidumping petition.
“In some ways Commerce has been
given a mandate that anytime anyone
petitions and says, ‘These guys are selling at below fair value,’ then they are
entitled to receive an antidumping
remedy,” Blonigen says.
In an e-mail response to questions
for this story, a Commerce representative noted that there is technically no
“finding” of injury by the department’s
Import Administration: “There is only
a determination that the allegation
meets the necessary statutory criteria
for initiating and conducting an

spring 2006 • Region Focus

21

“Antidumping duties are a WTOsanctioned trade remedy that is a
necessary and fundamental part of the
balance of rights and obligations that
countries voluntarily accept when they
become members of the multilateral
trading system,” Commerce said in an
e-mail response to questions. “In the
United States, administration of
the antidumping laws is the most
transparent in the world and governed
by strict due process requirements.”

investigation.” Only after a positive
determination does the ITC conduct
its own review, and affirmative determinations are required from both the
Import Administration and ITC
before an order takes effect.
The undeniable upshot of a lot of
antidumping remedies is that foreign
firms simply move their production to
other low-cost countries. If a Chinese
company gets slapped with an
antidumping duty, it might simply
move production to Vietnam, for
example, where it can continue to
keep costs down and offer lower
prices on exports. And then there is
the incidence of nations whose firms
are hit with antidumping duties
retaliating with their own duties. Since
1995, the most frequent filers of
antidumping petitions have been
developing countries. Over the past
decade, the United States had faced
158 antidumping investigations from
other countries, trailing only China’s
434 and Korea’s 212.
(The temporary steel tariffs
imposed by the Bush administration in
2002 were not antidumping measures;
they were traditional “safeguard”
measures that don’t allege price
discrimination as the reason for their
implementation.)
The Department of Commerce
takes issue with any description of its
activities as hampering free trade or
creating unintended consequences.

An Application:
Chinese Bedroom Furniture
Ikenson, the policy analyst at the Cato
Institute, calls the bedroom furniture
case the “poster child for reform” of
U.S. antidumping policy. In a 2004
paper, Ikenson complained about “the
ease of access to a commercially disruptive weapon that is presumed
naively to be reserved for cases of
unfair trade. In reality, the antidumping law as written and applied is
incapable of identifying unfair trade
and is used with increasing frequency
to hamper legitimate competition.” As
you might expect, some U.S. furniture
producers take a different view,
although even they are candid about
the shortfalls of antidumping policy.
Under the banner “American
Furniture Manufacturers Committee
for Legal Trade,” eight U.S. furniture
companies and six labor unions filed
their petition on Oct. 31, 2003. The

domestic manufacturers of beds, night
stands, armoires, and dressers claimed
that Chinese-made bedroom furniture
imports were flooding the U.S. market
at low prices. In 2003, China accounted
for about half of all wooden bedroom
furniture imports, more than
double its share two years earlier. The
domestic industry calculated it lost
15 percentage points of market share,
thanks to the cheap imports.
Vaughan Furniture of Galax, Va.,
had 1,500 employees and five factories
at the time of the petition filing. “We
felt like it was our best opportunity to
save those factories,” says Bill
Vaughan, chief executive of Vaughan
Furniture, which was founded by his
grandfather and great uncle. “We felt
like they [China] were dumping on
some products. Their prices were so
low, so much lower than what our
material costs were.”
Among the opponents was
Furniture Brands International (FBI),
the largest U.S. furniture maker. FBI,
which keeps significant operations in
North Carolina under brands like
Thomasville and Drexel Heritage, cast
the case as nothing more than strategic maneuvering. Additionally, FBI
questioned the gall of U.S. producers
who frequently import Chinese bedroom furniture. This suggests
producers whose “very own actions
have caused them injury.” For its part,
Furniture Brands wanted no part of

Countercyclical
Antidumping investigations tend to spike during economic downturns and fall during expansions.
400
W ORLD
U.S. S HARE

300

150
100

Recession

200

Recession

250

Recession

N UMBER

OF I NVESTIGATIONS

350

50
0
1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

NOTE: Data through 1997 are from the Journal of World Trade ; after 1997, from the World Trade Organization.
SOURCES: Journal of World Trade and World Trade Organization

22

Region Focus • spring 2006

1998

1999

2000

2001

2002

2003

2004

the effort, citing its own import activity. “It serves the company no purpose
to have tariffs imposed on that product,” says company spokesman Marty
Richmond. “It’s the consumer in the
end that will pay these tariffs … And if
the demand for furniture is elastic,
higher prices don’t serve anyone.”
The petitioners sought antidumping margins of between 40 percent and
400 percent, enough to significantly
dampen imports as well as give handsome windfalls to their own coffers
thanks to the Byrd Amendment. On
Nov. 9, 2004, the Department of
Commerce announced its final decision: Antidumping duties averaging
6.6 percent would be placed on
Chinese wooden bedroom furniture
imports. Though technically a win for
the petitioners, there were no victory
celebrations. The 6.6 percent margin
was considered too low to have much
impact, and that was an astute
observation, judging from what’s
happened since.
Vaughan Furniture has gone from
five factories to one since the filing
and laid off more than 1,000 workers,
bringing its head count to just 350
today. It was the largest downsizing in
the privately held company’s 83-year
history.
Bill Vaughan says it’s been a difficult time. He tells workers it wasn’t
their fault. “If we had been successful
in getting a high enough tariff, my
guess is we would have saved some
jobs,” he says. “However, the
[antidumping margin] was so low, we
have been unable to save any.”
Low margin or not, the decline in
domestic furniture manufacturing has
been all encompassing. Petition opponent Furniture Brands International
since 2001 has shut 31 factories and cut

about 8,000 employees. (Of its
remaining 26 plants, 18 are in North
Carolina and two are in Virginia.)
Much of the cutbacks have been in
wooden furniture production.
But Furniture Brands managers do
not blame imports. “The strategy in
dealing with imports in a broader
sense has been a blended strategy of
domestic manufacturing and sourced
product,” Richmond says. Specifically,
low-end products which can be
churned out through largely automated
factories tend to be set up offshore;
high-end products require more
customization and closely controlled
labor that is more widely accessible in
the United States.

The End of Antidumping?
With the start of the Doha round of
global trade talks in 2001, the push for
antidumping reform picked up pace,
even with initial U.S. opposition. But
reform may not even be necessary.
Measured both by number of cases
filed and by fraction of goods imported,
antidumping cases are being initiated
with much less frequency in this
century.
The downward slope of worldwide
investigations has been plain, with 364
cases as recently as 2001 but with a
projected 200 cases in 2005. The
United States has also seen a significant reduction in cases filed, with just
four antidumping and countervailing
duty investigations during the first
half of 2005.
A lot of this may have to do with
the countercyclical nature of
antidumping; usually, investigations
increase as the economy sours, as
industries look for an edge wherever
they can find it. It also may be that
fewer industries need protection.

There aren’t a whole lot more products out there that haven’t been
slapped with antidumping orders. As
of Dec. 31 there remained 333
antidumping and countervailing duty
orders in place.
But this falloff in investigations
may be different, some analysts say.
Globalization may have reached the
point that it’s no longer prudent for
domestic firms to wage tariff wars
with their trading partners, because
production is so intertwined over
international borders. “Today’s supply
chains are internationalized. If you
rely on a producer from Indonesia, it’s
unseemly to be seen by foreign affiliates as engaging in this kind of
protection,” says Cato’s Ikenson.
Unseemly or not, it’s still practiced.
But to what effect? Century Furniture
has cut about 300 workers over the
past four years, bringing its current
head count to about 1,200 employees
across seven factories in the Hickory
region.
Nowadays, the focus at Century is
on high-end furniture targeted at
designers, a move away from the more
import-vulnerable low-end business.
Employees are keenly aware of their
precarious situation, Maricich says.
Even as they continue to support
the antidumping stance, Century’s
workers are concentrating on new
ways to compete in a globally sourced
environment. “When you’re sitting
in this district and watching what’s
happened with textiles and now
furniture, it’s psychologically very
frightening,” Maricich says. “But one
of the interesting outgrowths of this is
the success we’ve had in changing.
Virtually everyone here is open to
change. They realize they have to
be open.”
RF

READINGS
Blonigen, Bruce A., and Thomas J. Prusa. “Antidumping.”
National Bureau of Economic Research Working Paper no. 8398,
July 2001.

Irwin, Douglas. “The Rise of U.S. Antidumping Actions in
Historical Perspective.” National Bureau of Economic Research
Working Paper no. 10582, June 2004.

Bown, Chad P., and Meredith Crowley. “Trade Deflection and
Trade Depression.” Federal Reserve Bank of Chicago Working
Paper 2003-26, February 2005.

Lindsey, Brink, and Dan Ikenson. “Antidumping 101: The
Devilish Details of ‘Unfair Trade’ Law.” Cato Institute Trade
Policy Analysis no. 20, Nov. 21, 2002.

spring 2006 • Region Focus

23

Boatbuilders continue to
adapt to maritime markets
and contribute to coastal
economies in eastern
North Carolina
BY CHARLES GERENA

24

Region Focus • spring 2006

Workers at Bayliss Boatworks in Wanchese spread a coat of fiberglass onto the hull
of a boat, one of the many labor-intensive tasks involved in building a custom boat.

weathered look of a man who has
captained boats throughout the East
Coast and the Caribbean for 22 years.
“After you run so many different types
of boats, you see the good and bad in
every single one,” he says. “All we have
done is taken what we think are the
best ideas and put them in a boat.”
While tourism and other service
sectors have become major drivers of
coastal economies in eastern North
Carolina, boatbuilders remain a source
of well-paying manufacturing jobs —
the industry’s statewide work force is
about 20,000 people. Their products,
born from the unique waters surrounding the Outer Banks, are prized by
recreational boaters — the value of
all boats made in the state is about
$450 million to $500 million annually.
Both estimates come from Mike
Bradley, who heads the marine trades
program at the University of North
Carolina’s Small Business Technology
Development Center. Exact employ-

ment and revenue figures are hard
to come by since most builders are
privately owned.
Like other coastal residents, boatbuilders learned how to adapt to
changing tides. Their products have
evolved from helping commercial fishermen earn a living to helping sport
fishermen earn trophies in national
tournaments. They have maintained
their niche in the marketplace while
other traditional industries in North
Carolina have contracted.
“The furniture industry is going
offshore, the textile industry has gone
offshore, and tobacco farming is gone,”
Bradley notes. “Boat-building is the
only one that’s still kicking.” In large
measure, the industry’s success is due to
its relatively limited aspirations. In
general, the boats made in eastern
North Carolina are not meant for mass
consumption. They are typically
custom-made, require skilled tradesmen to produce, and aimed at

PHOTOGRAPHY: CHARLES GERENA

N

orth Carolina’s Croatan
Highway is usually jammed
with tourists heading to
Kitty Hawk and Nags Head during the
summer. But during the off-season,
only a handful of locals drive past
scores of shuttered restaurants and
souvenir shops.
For John Bayliss and his 31-person
crew of painters, carpenters, electricians, and office personnel, though,
there is no off-season. Inside a complex
of large, tan metal buildings at Bayliss
Boatworks, the air is filled with the
scent of freshly stained cabinets and
the din of workers assembling the company’s plywood-fiberglass boats.
Three vessels are in various stages of
construction on this January morning.
One is a 65-footer destined for a beer
distributor in Clemson, S.C. In two
weeks it will be ready for test runs in
the waters off Wanchese, a small
town on Roanoke Island, south of
Nags Head.
Bayliss has learned the difference
between a good hull and a bad hull
through experience. He has the tanned,

discerning
buyers
who
value
the boats’ unique characteristics.
Catering to this niche market has
served the area’s builders well.

Changing Tides
Eastern North Carolina’s first boatbuilders were American Indians who
carved simple log canoes. Later,
colonists who settled in the region during the 1600s combined Indian designs
with their own to address local environmental factors and economic needs.
The region’s coastline is distinctive,
characterized by a chain of barrier
islands with maze-like, unstable inlets,
and shallow creeks and sounds. This
topography requires that vessels be
smaller in size and depth in order to
travel between communities and into
the Atlantic Ocean. In addition, the
ocean waters are unusually rough,
requiring sturdy, durable boats.
“With the [warm waters of the] Gulf
Stream and the [cold] Labrador
Current meeting off Nags Head and
Cape Hatteras, we have one of the
highest energy levels anywhere along
the East Coast,” says Buddy Davis, a
33-year boat building veteran. His
company in Wanchese produces about
eight sportfishing boats yearly.
Coastal residents initially needed
boats to get around and catch fish to
feed their families. Then, as new export
markets for shad, oysters, and other
native seafood emerged, boats turned
into business tools.
Locals continue to make a living
from the ocean, from the watermen
who catch seafood for export to charter
boat operators who take others out for
a day of angling. But the primary use for
boats has shifted from “for profit” to
“for fun.”
While previous generations of boatbuilders were watermen, the last few
generations have been former charter
boat captains or avid sportfishermen.
They have drawn upon their years of
experience, as well as the legacy of
Carolina boatbuilders, to meet current
market demands.
The “Carolina flare,” for example,
has a deep-entry, sharply pointed bow
that flares up to the deck. This enables

the same factors that affect any leisure
a boat to slice through the choppy surf
spending. These include changes in
of the Outer Banks while deflecting the
disposable income and consumer confispray away from the captain. The flared
dence, as well as fuel costs and weather
bow first showed up in Core Sounders,
conditions. For example, the stock
powerboats built for local watermen
market downturn in 2000 and the
during the 1930s. Now, it is prized by
eight-month recession in 2001 helped
competitors in fishing contests held
boat sales decline from 2001 to 2003
under similarly rough conditions.
before they rebounded in 2004.
“[Our] boats were built for these
In addition to a greater focus on the
waters,” Bradley says.
high-end of the recreational market,
Small and midsized craft require
the boat-building industry has seen
less investment in equipment and
some larger, mass-production builders
maintenance, are easier to learn how to
open for business over the decades.
operate, and don’t need to be in a mariThese firms produce more boats than
na. But over the years, boat buyers have
many of their counterparts, but they
gained the financial means to acquire
also incorporate regional designs into
bigger vessels with the latest amenities,
their vessels.
from GPS navigation to ornate master
One of the biggest in eastern North
suites with wide-screen televisions.
Carolina is Hatteras Yachts with
“Boats are becoming a lot more
1,200 employees. The New Bern-based
sophisticated and a lot bigger,” says
company offers 14 models of sportfishJohn Bayliss, whose first boat was about
ing and luxury yachts that earn an
47 feet when he built it in the 1980s. At
estimated $78 million annually.
that time, the longest boats were in the
50-foot range. When Bayliss toured a
few custom boat shops in Florida last
The More Things Change …
fall, not a single one was making
At the same time, many boatbuilders
anything shorter than 70 feet.
buck the trends that have transformed
Bigger, high-end boats are more
manufacturing. While a few companies
expensive to build, but they provide
use multiple workstations and molds to
profit margins wide enough to cover
churn out hundreds of units annually,
the growing costs of running a boatmost build every vessel to order, each
building business in coastal North
employing less than 100 people to
Carolina. Growth in vacation home and
produce only a few units a year.
condo development combined with
Custom builders don’t have the
limited land availability has pushed up
production volume to spread out their
property values and taxes, while fuel
fixed costs and realize economies
and material costs have also increased.
of scale. So their marginal cost of
Aiming for the high road also means
production increases rather than
catering to a wealthier, more stable cusdecreases whenever they try to scale up
tomer base. According to the National
their output.
Marine Manufacturers Association,
That’s one reason why, according to
the annual median income of new
Bradley, a builder might charge
boat owners was
between $75,000
U.S. Recreational Boat Registrations
and $99,000 in
While owners of larger boats are still in the minority, their ranks have
2004. “[These] are
grown recently.
going to be the
1999
2004
% change
people that, in lean
Under 16 feet
5,636,128
5,279,622
-6.3
times, tend to have
16 to less than 26 feet 5,678,516
6,054,768
6.6
more expendable
26 to less than 40 feet
418,018
469,159
12.2
income,” Bayliss
says.
40 to 65 feet
50,508
64,961
28.6
The demand
Over 65 feet
7,899
10,273
30.1
for recreational
SOURCE: U.S. Coast Guard
boats is subject to

spring 2006 • Region Focus

25

$50,000 for a 24-foot boat, then the
price shoots up to $90,000 for a vessel
that’s just 4 feet longer and more than
doubles to $120,000 for a 32-foot boat.
Another reason is that a lot more
amenities go into making larger boats
appealing for customers, adds Bradley.
That’s just fine with custom builders
like John Bayliss. When you aim for
discerning customers in the high-end of

the market, he believes, you can’t make
boats on a production line. It takes
workers with significant skill and
experience to custom-build boats, and
that type of labor is relatively expensive
to acquire. “We can’t do what Hatteras
Yachts can do; we can’t spit out 100
boats a year,” he notes. “But they can’t
do what we can do.”
There is another thing that hasn’t

Luxury Tax Threw Yacht Builders for a Loop
Ask North Carolina boatbuilders to look back at the challenges of the last few
decades and many will point to one thing: Congress’ passage of a 10 percent excise
tax on luxury goods in 1990. This is a good example of the extent to which tax
policy influences consumer demand and the difficulties of teasing out that effect from
larger economic forces.
The luxury tax applied to aircraft with a retail price higher than $250,000, boats
priced above $100,000, automobiles priced higher than $30,000, and jewelry and
furs selling for more than $10,000. The levy was in place from January 1991 until
lawmakers bowed to public pressure and repealed it for boats, planes, jewelry, and furs
in 1993. Cars continued to be taxed until 2002.
One would think that someone who could afford a $2 million pleasure craft
wouldn’t care much about paying 10 percent more for it. In fact, the demand for these
boats can be quite responsive to changes in price or, as economists would say, elastic.
One reason is that the wealthy could shift their recreational dollars into other
leisure activities that weren’t taxed, like a day on the golf course. Another reason is
that buyers could fly to the Bahamas and buy a boat there to avoid paying the excise
tax. Finally, the demand for luxury goods in general is relatively price elastic because
they are not necessary for everyday living, as is the case with water or electricity.
There was evidence that the wealthy reduced their purchases of some luxury goods
during the tax’s two-year lifespan. Actual IRS receipts from the tax on airplanes
and furs fell short of the projections made by the Joint Committee on Taxation, a
10-member working group of congressional representatives. However, the tax on
boats, airplanes, and jewelry exceeded the committee’s projections.
There was also plenty of anecdotal evidence of a decline in demand for luxury
boats. But it’s hard to say precisely how much of this change was due to the luxury tax
and how much was attributable to the general economic slowdown in the early 1990s.
Buddy Davis, who was producing all-fiberglass boats in Wanchese when the excise
tax hit the boat-building industry, says his sales fell from about $20 million in 1989 to
less than $3 million in 1991. He scaled back his business and refocused sales efforts on
foreign markets. “That’s the only thing that kept us alive.”
Davis’ story wasn’t unique. Mike Bradley, manager of North Carolina Marine Trade
Services in Beaufort, says the companies that were able to live through the early 1990s
became really lean. Hatteras Yachts laid off nearly all its work force and Bayliner
abandoned its three North Carolina plants, according to an April 2000 feature in
Metro Magazine on Carolina boatbuilders.
Although builders of large, high-priced boats suffered, the luxury tax created
opportunities for producers of smaller boats, Bradley notes. Beneficiaries included
Kencraft Manufacturing, about 37 miles west of Greenville, N.C., and Parker Marine
Enterprises, based near the coast in Beaufort.
Today, big boats are big business once again for North Carolina builders. In fact,
the industry touts the tax advantages of buying on credit — you can write off the
interest if the boat qualifies as a second home.
— CHARLES GERENA

26

Region Focus • spring 2006

changed about the industry — its
proximity to North Carolina’s coastline.
Seventy-two of the state’s 107 builders
are near the Intracoastal Waterway and
the Atlantic Ocean, clustered around
Roanoke Island in Dare County and
Harkers Island in Carteret County. The
rest are scattered throughout the state,
located near major roadways where they
can transport their products (in the case
of Triumph Boats in Durham) or near
lakes where boats can be tested and sold
directly to customers (in the case of
High Rock Boat Yard in Southmont).
Being close to the water makes it
easier to launch boats for testing or
delivery to clients. And, being near the
Intracoastal Waterway puts builders in
the sights of recreational boaters traveling up and down the Eastern Seaboard.
Buddy Davis says that boat sales aren’t
as concentrated within the local market
as they used to be. “The market base is
broader [because] Carolina builders
have earned some recognition that they
deserve,” he notes. Buyers in Florida
and other major recreational boat markets value Carolina brands like Davis,
Parker, and Hatteras for their sturdiness, speed, and distinctive appearance.
For producers of larger boats, water
access is essential. “You’re not going to
transport a boat that’s 70 feet long and
40 feet wide very far [by roads],
especially when it weighs several tons,”
says Dave Inscoe, executive director of
the Carteret County Economic
Development Council. Instead, large
boats are sent by ship to foreign buyers,
or they are simply launched into
the water and customers sail off into
the sunset.
Although most boatbuilders remain
small employers, they help add variety
to labor markets in eastern North
Carolina. There is less industrial
employment in the region compared to
the rest of the state, due to poor transportation access and other factors, and
few major employment sectors beyond
tourism, retail, and government.
In addition, boat-building jobs in
North Carolina pay better — an
average of $649 a week in the second
quarter of 2005 compared to $244 a
week in the accommodation and food

services sector and $441 a week in the
retail sector. They are also more stable
compared to seasonal work at a hotel or
restaurant. As a result, Buddy Davis says,
low-skilled workers commute 50 miles
and more for a boat-building position.

Economic Headwinds
Luring carpenters and other artisans is
more of a challenge, say Bayliss and
others. The pool of skilled labor needed
to construct a boat is small, forcing
builders to recruit from as far south as
Florida.
The labor pool in general is small in
coastal counties like Dare and Carteret
because they are sparsely populated.
Boatbuilders have to compete with
local military installations for skilled
laborers as well, Inscoe adds.
There are plenty of people living
inland who would appreciate the
competitive wages paid by builders.
The problem is not all of them have
the necessary skills. “It’s not like a
restaurant that can advertise for
dishwashers for a high hourly rate and
get inundated with applicants,” Bayliss
notes. Workers involved in boat-building are more specialized, plus “each
builder has a different style and a
different quality threshold.”
Local community colleges are trying
to increase the supply of skilled boatbuilding laborers. The College of the
Albemarle has offered pre-employment
training programs since 2004, while
Carteret County Community College
opened a Marine Training and
Education Center in Morehead City
that will teach the basics of fiberglass
boat construction.
To ease the demand for laborers,
Bradley would prefer that new builders
locate inland. Mass-production firms
don’t need to be near the water to test
and transport their products, plus they
can take advantage of the economic

vacuums left behind by the declining
furniture and textile industries in other
parts of the state. Recently, Floridabased Cobia Boats built a new plant in
Marion, a small city in western North
Carolina where hundreds of furniture
workers have lost their jobs. It remains
to be seen, though, whether Marion’s
example is the start of a trend or an
isolated event.
Of
course,
mass-production
builders don’t have to locate in North
Carolina at all. The same forces that led
textile and furniture makers to move
from the Carolinas — principally, the
search for lower labor costs — are at
work in this segment of the boatbuilding industry. While niche builders
require highly skilled, experienced
workers, the labor needed for
mass-production vessels can be found
much more readily ... including in
foreign countries like Canada.
As boats get larger, North Carolina’s
boatbuilders will face another
challenge: They will have to compete
for resources with other growing
industries, namely tourism. For
example, builders along the sounds and
upriver from the coastline bring their
boats to Wanchese for finishing and
delivery to customers. But an overpass
to relieve summer-time congestion at
the intersection of U.S. 64 and the main
road into Wanchese was initially
proposed with a clearance of 16 feet,
well under the height of larger boats.
Builders had to lobby hard to get the
clearance raised to 20 feet. In the
future, companies in Beaufort and
Morehead City will closely watch plans
to replace a drawbridge between the
two communities to ensure that their
largest vessels aren’t blocked from
reaching the Intracoastal Waterway.
Builders will also need bigger shops
so that work doesn’t have to be taken
outside, which would curtail produc-

It takes a lot of wiring to provide the electronics
that customers expect.

tion during the winter. And more of
them will need waterfront access since
larger boats are expensive to transport
by truck. In both cases, rising real
estate values will make it difficult to
acquire the land they need. Currently,
there are two sources of waterfront
land for newcomers or those who need
to expand — state-owned Wanchese
Seafood Industrial Park and privately
owned Jarrett Bay Marine Industrial
Park — but both are near capacity.
Manufacturers will have to face
these challenges head on. But they have
one major advantage: Demand remains
strong for the custom-made boats
coming from eastern North Carolina.
“For the foreseeable future, there is
a niche,” says Buddy Davis. “Some people want a customized home and they
always will. And, some people want a
very unique boat and they always will, if
we stay on top of [change] and do a
good job.”
RF

READINGS
Jonsson, Patrik. “A Modern Tradition: Boatbuilding Boom
Launches Economic Renaissance in Eastern NC.” Metro
Magazine, April 2000.

The U.S. Boat Building and Repairing Industry: National Trends
and Characteristics. St. Louis: Center for Competitive Analysis,
July 2000.

Knauth, Steve. “Carolina Flair.” Soundings Magazine,
February 2001.

2004 Recreational Boating Statistical Abstract. Chicago: National
Marine Manufacturers Association, 2005.

spring 2006 • Region Focus

27

Under
Pressure
Government workers have long looked forward to retiring with generous,
taxpayer-guaranteed nest eggs. But many of those retirement systems are
having trouble staying in the black
BY DOUG CAMPBELL

28

Region Focus • spring 2006

with election cycles which tend to be a
lot shorter than these financial cycles,
so legislatures tended not to worry
about what would happen 10 or 20
years in the future.”
To crawl out of this hole, West
Virginia in 2000 tried to float a $3.9
billion obligation bond, only to have it
blocked because a court said it needed
voter approval. A $5.5 billion bond got
on the ballot last summer but failed.
Now, the state is relying on a 40-year
plan, begun in 1994, to slowly close the
gap with regular payments. Meanwhile,
the teachers’ fund was closed to new
hires for several years, though it has
since been reopened.
While pension administrators —
both public and private — generally
may face the temptation to inadequately fund future obligations, not all
plans are in trouble. For example,
North Carolina suffers no such
pension woes. Its system, which
encompasses almost 600,000 workers
and retirees, has a $3.4 billion surplus.
When watchdog groups express
concern about public pensions, they
never bring up North Carolina.
Just the same, public pension critics
have plenty of ammunition. From West
Virginia to Illinois, many governments
are struggling to shore up their public
pension systems. Granted, some of
these cases may not be primarily due to
accountability problems. Since funding
of public pensions is largely dependent
on private sector employment — and

the taxes they generate — it’s possible
that actuarial assumptions could be
thrown off in states where growth in
public-sector
employment
has
outflanked the private sector. But in
the case of West Virginia, at least, that
doesn’t appear to be the main problem.
A lot of the debate over what to do
— if anything — about public pensions
centers on whether to shift responsibility for retirement saving from
governments to employees. Like the
debate over Social Security, this one
turns on public opinion about the
merits of an “ownership society” versus
the seeming safety associated with
state provision of benefits. Beyond the
political debate, though, lies a straightforward
economic
observation:
Despite some recent reforms,
policymakers face a powerful
temptation to borrow from, or put off
contributions to, public pensions to
cover spending on other projects.

From Perk to Problem
Not so long ago, retirement in the
United States was nothing more than
the last few, declining years of life,
usually spent dependent on children.
In 1880, almost eight in 10 men over
the age of 65 still worked; by 2000, the
rate had fallen to less than two in 10.
Now, retirement is “an extended period
of self-financed independence and
leisure,” as economic historian Joanna
Short puts it. There are many factors
contributing to this trend, including

ILLUSTRATION: GEEP SCHURMAN

W

est Virginia is famous for
its spectacular mountains,
ample mineral deposits,
and its spirit of independence. But the
Mountain State is known for all the
wrong reasons when it comes to its
public pension system. West Virginia
is home to the nation’s worstfunded major retirement plan for state
and local government employees.
Specifically, its main fund for teachers
faces an estimated shortfall of almost
$5 billion, holding only 25 percent of
the financial assets deemed necessary
to pay for the promised retirement
packages of about 46,000 workers.
How did this happen? While many
economic factors could contribute to
the situation, at its heart pension management suffers from a fundamental
mismatch between authority and
accountability. Administrators of public pension plans make decisions for
which their accountability could be
limited, because the consequences of
their decisions happen so far in the
future. Economists argue that this
problem is a form of “moral hazard.”
Dan Foster, who is the current
chairman of the West Virginia Senate’s
Pensions Committee, has a succinct
explanation for what happened with
the teachers’ plan: “We did not fund it
as we should have. And at the same
time, the benefits that were given to
state retirees and teachers for this
program were continuing to increase
for political reasons. We are dealing

increased personal incomes and
affordability of leisure pursuits, plus
advances in health care that help
people enjoy more active old ages. But
also playing a central role was the
development of Social Security and
pension programs. Increased wealth
made possible all the other factors
creating longer retirements.
The first public pension in the
United States was set up in 1781 for
military members. The first pension
plan for state or local government
workers was established by New York
City for police officers in 1878.
Eventually, these plans became the
norm,
encompassing
teachers,
firefighters, sanitation workers,
subway drivers, court clerks, and
sheriffs’ deputies, among others.
Today, the United States is home to
about 2,600 public-sector pension
plans covering some 20 million active
and retired state and local government
employees. In all, these plans are obligated to pay an estimated $2.4 trillion
(in present value dollars) to their
beneficiaries. About 90 percent of
state and government employees are
covered by “defined benefit” plans,
compared with less than 25 percent in
the private sector. In general, the
private sector has been moving away
from defined benefit plans.
Basically, a defined benefit plan
provides an annuity at retirement that
people can’t outlive: Work a certain
number of years, and then collect a
percentage of your salary until you die.
Its assets are professionally managed
and the employer bears most or all of
the investment risk.
There are subtle deviations from
this central premise. Benefits in such
plans usually are calculated according
to a formula based on years of service
and percentage of pay. Sometimes
employees are required to contribute
to their employers’ pension plan,
sometimes not. Sometimes employees
also are opted into the Social Security
system and their paychecks taxed
accordingly, sometimes not. But
overall, it’s a great deal for employees.
A possible exception, of course, are
employees of private companies that

later encounter financial trouble and
renege on their pension promises.
The backlash against public pensions really began to pick up steam just
five years ago. When the stock market
was roaring in the late 1990s, many
governments pared back their pension
contributions, using the unexpected
gains on their investments to cover the
difference. (Most pension systems
invest assets in a variety of securities,
ranging from stocks to government
bonds.) But then came the market
retreat of 2000 and 2001, and pension
plans that had looked in good shape
suddenly needed help, their rosy 8 percent
investment return estimates way off.
“We experienced a bit of a perfect
storm in terms of the confluence of
events,” says Keith Brainard, research
director with the National Association
of State Retirement Administrators
(NASRA).
These squeezes sometimes force
governments to cut back on services.
A school district in Michigan, for
example, had eliminated teachers and
halted new textbook purchases as it
tried to meet its pension obligations,
according to a BusinessWeek cover story
last summer.

Funding Crisis?
At present, state and local government
pensions have on average enough to
pay between 84 percent to 88 percent
of what they owe, depending on which
survey you look at. According to
actuarial standards, anything above
80 percent is considered sufficiently
funded. Almost one in three plans falls
below the 80 percent threshold.
Nationwide, only two states (North
Carolina and Florida) have total
pension system assets greater than
liabilities. (See chart for conditions of
Fifth District public pensions.)
In one of the nation’s most comprehensive annual surveys, the Wisconsin
Legislative Council looked at 85
pension plans in all 50 states, or about
three-quarters of all public-sector
employees covered by pension plans.
The survey found that the number of
plans with funding ratios topping 100
percent fell from 33 to nine between

2000 and 2004. The same study found
a general trend toward improving
benefits, such as allowing earlier retirements and increasing multiplier
formulas for determining benefits.
These actions yield long-term effects;
by law, once employees are awarded
benefit levels, those levels cannot be
reduced. Only new employees are
affected when lawmakers move to
reduce benefit levels.
To some analysts, these statistics
provide ample evidence that pensions
are particularly vulnerable to poor
management. The reason that many
pensions are dangerously underfunded,
the reasoning goes, isn’t because of
unexpected drops in the stock market.
It’s that pension managers and politicians had no incentive to ever consider
the possibility that investment returns
would falter. Even defenders of public
pensions acknowledge this inherent
disconnect. “They made a lot of promises during those (bull market) periods
thinking that the high equity values
and the high discount rates would
enable them to pay off those promises
without too much pain,” says Douglas
Elliot, president of the Center on
Federal Financial Institutions, a nonprofit policy institute in Washington,
D.C., that monitors federal government lending and insurance activities.
“It looks a lot more painful now.”
The Reason Foundation, a think
tank based in Los Angeles, published a
paper in 2005 titled “The Gathering
Pension Storm: How Government
Pension Plans Are Breaking the Bank,”
which cited myriad ways public
pensions have been exploited.
“Pension spiking” refers to the practice
of employees who manipulate the system to make their compensation as
high as possible just before retirement,
the result being that their pension
benefits — which are tied to their final
compensation — also rise. Then there
are the so-called “Drop” plans, in
which senior employees amass a special
fund filled with proceeds they would
have gained if they had retired, and
then get to cash it out upon their real
retirement. Sometimes senior employees face incentives to take advantage of

spring 2006 • Region Focus

29

these plans whether they are
considering retiring or not.
“There are strong political
incentives to increase benefits and
push off obligations into the future,”
says Adam Summers, a Reason
Foundation policy analyst. The most
oft-proposed remedy is a wholesale
shift from defined benefit to defined
contribution plans. This is already
happening in the private sector, where
the number of defined benefit plans
has fallen 70 percent since 1985 while
defined contribution plans have grown
by almost 50 percent.
A defined contribution plan has
become more broadly known as a
401(k). Such plans don’t guarantee
benefits but rely on regular contributions from both employees and
employers to build tax-deferred nest
eggs that are usually dispersed in lump
sums upon retirement. All the risk
resides on the shoulders of employees,
which in the case of public pensions
means that governments — and by
extension, taxpayers — are off the
hook. On the flip side, all the control
over investments goes to employees.
This can be a positive in the sense that
you would expect defined contribution
members to take more care in planning
for their financial futures because of
their strong incentives to do so.
Summers disputes the notion that
governments need defined benefit
plans as a recruiting tool for the best

employees. Private-sector workers
make an average $16.71 an hour; their
public-sector counterparts earn $23.52.
It’s true that there is a higher percentage of white-collar professionals in the
public sector, in particular teachers,
which raises the average among government workers. But even among
comparable professional positions,
government workers still make a hair
more than private-sector workers.
Moreover, the recruiting virtues of
defined benefit plans are uncertain.
While it’s true that government workers
with 20 years or more of service are
grateful to have their retirements
virtually all paid for, a defined
benefit plan might not be so useful a
recruiting tool for young workers. To a
20-something professional, who is
likely to switch jobs several times in his
career, a portable, defined contribution plan makes a lot more sense. Some
public systems offer both defined
benefit and defined contribution plans.
In a recent paper, the National
Association of State Retirement
Administrators responded, saying the
Reason study was “based on a distorted
picture of the public pension funding
situation.” While acknowledging that
administrators face incentives which
could lead them to underfund future
obligations, NASRA’s Brainard argued
that legislation can cure most public
pension ills. He pointed to Georgia as
an example of a state that has passed

strict standards aimed at ensuring that
public pensions remain solvent. In
principle, Brainard accepts the argument that there is a disconnect
between who authorizes funding for
public pensions and who ultimately is
accountable for making sure the
money is there when needed. “The
‘moral hazard’ argument is definitely
valid,” Brainard says. “But to me, it’s
less to do with the inherent nature of a
defined benefit plan and more to do
with the way it’s established and implemented.”

Success in North Carolina
North Carolina is as good an example
as any of a state where defined benefit
plans haven’t wreaked fiscal havoc.
“When people talk about defined benefit plans, if any one of the pieces of
the puzzle is missing, it can be a recipe
for disaster,” says Richard Moore, the
state’s treasurer. “We are as a state
reaping the benefits of having a properly endowed and mature pension
fund.”
North Carolina, unlike a lot of
other state pension plans, requires
employees to contribute — the state
takes 6 percent out of every paycheck
before making its contribution.
Granted, the state’s contributions can
change year by year. For example,
North Carolina was putting less than 4
percent of payroll and as little as zero
during the bull run of the late 1990s,

Pension Plight
West Virginia’s pension plan for teachers has the worst funding ratio among major public-sector plans in the nation; North Carolina's public
employee plan is among the best-funded.

Plan
District of Columbia Teachers
District of Columbia Police & Fire
Maryland Teachers
North Carolina Teachers and State Employee
North Carolina Local Government
South Carolina Retirement System
Virginia Retirement System
West Virginia Public Employee Retirement System
West Virginia Teachers
NOTE: Figures as of 6/30/04 except D.C., 9/30/04.
SOURCE: National Association of State Retirement Administrators

30

Region Focus • spring 2006

Funding Ratio (%)

Assets ($000s)

100.0
100.0
92.8
108.1
99.3
82.8
96.4
80.0
22.2

1,917,800
1,427,800
20,155,415
45,117,508
12,364,380
20,197,936
39,243,000
3,095,660
1,427,475

Unfunded Liability ($000s)
–
–
1,568,763
(3,383,806)
91,124
4,200,995
1,455,000
774,541
5,013,263

and even into 2000. But it quickly
reversed course as the market soured.
Meanwhile, its expectations about
the future are decidedly conservative,
most years assuming returns of 7.25
percent. (In the Wisconsin Legislative
Council’s survey, North Carolina’s
return estimate was tied for second
lowest with South Carolina among 85
major
public
pension
plans.)
Additionally, North Carolina government employees pay into the Social
Security system, and are promised only
about half of their top salary after even
30 years of service — generous but not
in league with plans that offer
75 percent to 95 percent of their top
salaries. “We have worked very hard to
keep all of our expectations and
assumptions realistic in North
Carolina,” Moore says. “That’s why
we’re in such great shape.”
Also, Moore says it’s cheaper to
manage a defined benefit plan. His
office spends 10 basis points per total
assets on managing the fund,
compared with about 70 basis points
for a defined contribution plan. And
investment returns tend to be higher,
Moore says, thanks to the state’s
investment strategy that is strict in its
adherence to asset allocation, unlike
how many individuals pick stocks.
Some of these strategies have
gained notice in other states with
pension problems. Last year, West
Virginia’s legislature voted to require
that public pension plans be at least
85 percent funded before allowing
enhancements in benefits to active
employees. Additionally, benefits
improvements to retirees must now be
amortized over six years, a relatively
short time that was picked to make
sure they are paid for quickly. A recent
special appropriation added $225 million to the public safety pension plan,
allowing it to go from 25 percent

funded to almost 75 percent funded.
“I think the West Virginia
Legislature, at least for the last 10 years
that I’ve been here, has been very
dedicated to funding all of our
retirement system,” says Terasa Miller,
acting executive director of the state’s
Consolidated Public Retirement
Board.

Money Management
Ed Hustead, a former chief actuary at
the Federal Office of Personnel
Management who now works with
Hay Group, a consulting firm in
Washington, D.C., says that his general
philosophy is to favor defined benefit
plans. But sometimes that thinking
changes, he says: “In talking to an
employer and saying, ‘Here is what a
defined benefit plan is costing in terms
of your contributions and risk and
administration expense — and oh, by
the way, the new employees don’t
appreciate it — maybe you should go
with a defined contribution plan.’”
At the same time, Hustead worries
about shifting too many employees
to defined contribution plans. The
masses simply can’t be trusted to
responsibly plan for their retirement,
he says. “The benefit produced by a
good defined contribution plan invested wisely is still not going to be much
higher than a defined benefit plan,”
Hustead says. “And it could be a lot
lower if people don’t put as much
in as they should or they make bad
investment decisions.” That sentiment
is shared by North Carolina Treasurer
Richard Moore, who says: “Individuals
are not very good at managing their
own money.”
The case of West Virginia’s teachers’
pension plan, the one that is today only
25 percent funded, is illustrative on
this point. When it was launched in
1941, the West Virginia teachers’ plan

was a defined contribution fund. In
the 1960s, many retirees started
complaining that they had run out of
retirement income, so legislators
began the conversion to a defined
benefit plan, thinking this would offer
more protection to their retirees. But
in making the switch, legislators
continued to fund it as a pay-as-you-go
defined contribution plan, instead of
pre-funding it with an actuarial
reserve. The result was a “systematic
accumulation of staggering unfunded
accrued liabilities,” according to the
1991 annual report of the West Virginia
Teachers Retirement System. In other
words, in trying to protect their
retirees from unwise planning, West
Virginia lawmakers ended up making
poor decisions themselves.
Converting public pensions to
defined contribution plans would
eventually take all the financial risk of
public employee retirement off a government’s books. But defined benefit
plans remain the norm, in no small part
— according to their managers —
because they are a great benefit. They
are guaranteed and people can’t mess
them up through dereliction or poor
choices. “You’re not leaving the
employee out there to hang,” says
NASRA’s Brainard.
But you are counting on pension
managers and policymakers to take
great care in the way they plan for the
future, even though they probably will
be long gone when the decisions they
make begin to show results. In some
cases, this has worked well. In other
cases, like in West Virginia, it hasn’t.
No system is risk-free. And for many,
the choice between defined benefit
and defined contribution plans comes
down to a simple question: Who do
you believe will do a better job
planning for retirement — the employer
or the employee?
RF

READINGS
Brainard, Keith. “NASRA Response to Reason Foundation
Study, ‘The Gathering Pension Storm.’” National Association of
Retirement Administrators, January 2006.

Passantino, George, and Adam B. Summers. “The Gathering
Pension Storm: How Government Pension Plans Are Breaking the
Bank and Strategies for Reform.” Reason Foundation, June 2005.

Mitchell, Olivia S., and Edwin C. Hustead. Pensions in the Public
Sector. Philadelphia: University of Pennsylvania Press, 2000.

Short, Joanna. “Economic History of Retirement in the United
States.” EH.Net Encyclopedia, October 1, 2002.

spring 2006 • Region Focus

31

The Pay
Divide
Men make more money
than women. Some new
economic research helps
explain why

I

t’s a fact of the modern labor
market that women make less
money than men. Considerably
less, actually. Women who work fulltime now earn about 80 percent of
what their male counterparts make,
according to the Bureau of Labor
Statistics. And, according to at least
one study, the gender wage gap
increases by about 20 percentage
points between ages 20 and 40.
Though the gap has narrowed over
time, this divide looks unlikely to
close completely anytime soon.
An array of factors is at play here.
While professional men tend to hold
jobs as engineers or mathematicians,
professional women tend to be
employed as teachers and librarians
— occupations which pay less.
(Although, women increasingly are
working in fields that used to be the
exclusive
province
of
men).
Additionally, women as a group work
fewer hours than men, even those
classified as employed full-time.
Women may also be subject to labor
market discrimination (though a lot
of economists would tell you that
32

Region Focus • spring 2006

systematic discrimination is difficult
to imagine as sustainable in a competitive environment), getting paid less
than a man for identical work.
Then there is the simple but
important observation that women
can become mothers, often staying at
home for months or years raising their
children before returning to the work
force, if ever. As a result, their stock of
on-the-job experience slips behind
that of men’s and so, too, does their
pay. Mothers earn about 89 percent
of what women without children earn
— a difference that by itself accounts
for almost half the wage differential
between men and women.
All of these factors are important
to consider. But what if every one
of them — from occupational choices
to experience levels — were actually
rooted in a single, underlying cause? It
may be that no such explanation
exists. But if it did, it could prove
useful to policymakers grappling with
how, or even whether, to address
the wage gap.
Recently, a team of economists has
made some headway on this question.

They investigated the extent to which
men and women face different incentives to invest in their future earning
power. Their work has its roots
in the economic concept of human
capital, or, loosely, the skills that
people acquire which help them in
the workplace.
Economists have long debated
how much the gender wage gap can
be explained in terms of human capital. Skeptics have noted that human
capital theory’s predictions are at
times inconsistent with real-world
data. But now, Richmond Fed economist Diego Restuccia and his
co-authors, Andrés Erosa and Luisa
Fuster of the University of Toronto,
are trying to quantify the role that
incentives to accumulate human capital play in the gender wage gap.
“There’s a set of people who really
believe that wage differences
between men and women can in large
part be explained by discrimination
in the labor market,” Restuccia says
in an interview. “For people who
believe in human capital, the burden
has been to show that this channel is

PHOTOGRAPHY: GETTY IMAGES

BY DOUG CAMPBELL

indeed quantitatively important and
consistent with what we observe in
the real world.” That, in a nutshell, is
what Restuccia and his colleagues
have tried to accomplish.

A Theory is Born
The theory of human capital was
largely developed by economists Gary
Becker and Jacob Mincer at Columbia
University in the 1950s and 1960s.
Becker’s 1964 book Human Capital
popularized the notion that investments in education, training, and
health care were as important to the
economy as other means of production. Those who accumulate human
capital, be they businesses or individuals, can expect payoffs much as they
would from investments in tangible
assets. The theory says that there is a
proportional relationship between
the amount of effort people put into
obtaining experience and training and
the time they expect to work over
their lifetime.
Mincer and Solomon Polachek
applied human capital theory to the
gender gap in their seminal 1974
paper, “Family Investments in Human
Capital: Earnings of Women.” They
were among the first economists to
get hold of a data set with detailed
work histories among men and
women. Mincer and Polachek concluded that because women expect
child-related career interruptions,
their incentives for investing in
human capital are weaker compared
with men.
It works this way: At age 22, a
woman might see her career arc as
beginning with an entry job, moving
up the corporate ladder to a managerial
position, only to leave the workplace
for several years after giving birth to
her first child. A man, by contrast,
might see the same arc, only he won’t
leave his job after becoming a father.
On balance, which of these — the
man or woman — is going to invest
more on-the-job effort and time? You
can
call
this
discrimination,
insofar as women are presumed to
be the ones who stay home with
the children. But for women who

expect to be the ones staying home,
it is also an economically rational
decision.
More than 30 years later, Polachek,
now at the State University of New
York at Binghamton, recalls some
hostile initial reaction, with many
critics arguing that the study
overlooked a role for labor market
discrimination. But Polachek says
it’s not so much market discrimination in action as “societal,” or
home-life discrimination. “Our major
contribution was probably to
understand that the division of labor
in the home is a fairly important
concept,” Polachek says. “It’s a
phenomenon which explains the
differential patterns of married male
and married female investments in
future earnings power in the labor
market, which in turn plays a very
important role in explaining the malefemale wage difference.”
The theory of human capital has
been widely cited in promoting many
policies aimed at easing the gender
wage gap. Parental leave proposals, in
particular, have been grounded in the
notion that they may be powerful
solutions for this problem. Columbia
University economist Jane Waldfogel,
in an influential 1998 paper, noted
that the chief reason why women’s pay
trails that of men’s is that women with
children drag down all women’s
earnings — the so-called “family gap.”
She put it this way: “Maternity leave
coverage, by raising women’s retention over the period of childbirth,
raises women’s wages by increasing
their levels of work experience and
job tenure and allowing them to
maintain good job matches.”
Waldfogel cited data from Britain and
Japan as evidence that maternity leave
can raise women’s pay. “Thus,” she
says, “maternity leave, along with
other family policies, may be an effective remedy for the family gap in pay.”
Over the years, interest in human
capital as an explanation for the
gender wage gap has ebbed and
surged. Skeptics pointed to the 1980s
as evidence that human capital
theory wasn’t relevant. During that

time, female labor force participation
rose but wages for women didn’t see
proportional gains. (Since then, the
gap has resumed its narrowing.)
Meanwhile, women have overtaken
men in numbers at our nation’s
colleges, and still they trail in pay.
To a casual observer of human capital
theory, this doesn’t always seem to
add up.

A New Approach
Restuccia’s main area of research has
been economic growth. He has used
human capital theory to study differing rates of productivity between
nations and differing earnings among
generations. Looking at the gender
wage gap through the lens of human
capital, then, was somewhat of a
natural step.
Restuccia and his co-authors
decided that they wanted to test
Waldfogel’s idea that parental leave
policies would help close the gender
wage gap. To do this, they set up a
mathematical model in which human
capital is the main determinant of
how much people get paid. Human
capital evolves with experience
(“general” human capital) and tenure
on the job (“specific” human capital).
People base their decisions on
whether to work on how much they
think they’ll earn in the future. And
since this is a dynamic model, people
understand that leaving their jobs
even temporarily — as when women
take leave for childbirth and rearing
— can have an impact on the human
capital they accrue. To this framework
the economists added the feature of
mandatory parental leave policies,
meaning workers would be able to
go back to their previous jobs after
tending to matters at home.
Going in, the economists expected
their results would bear out a relationship between human capital and the
pay gap. But when they ran the
calculations, they were surprised.
Their results suggested that specific
human capital wasn’t sufficient to
account for the wage gap and, by
extension, that generous mandatory
leave policies in this framework would

spring 2006 • Region Focus

33

WEEKLY EARNINGS IN 2004 DOLLARS

in which the gap between
have no impact on closing
male and female pay was
the wage gap.
A Narrowing Gap
shown to grow from
Instead, it turned out
Since 1979, women have narrowed the pay gap with men by about
20 percentage points to 40
that women in the model
20 percentage points.
percentage points between
with good-paying jobs
800
the ages of 20 and 40.
generally would decide not
700
In the economists’
to leave the work force
600
resulting model, almost all
in the first place — they
500
of the gap’s increase over
“self-selected” to remain on
400
Men
the life cycle can be
the job. The economists
300
Women
explained as a function of
reasoned that this hap200
differing incentives for
pened because highly
100
accumulating human capitrained women didn’t want
0
1979
1984
1989
1994
1999
2004
tal. These incentives are so
to give up the specific
SOURCE: U.S. Bureau of Labor Statistics
robust that even women
experience they had built
who never have children
up and because they had
are affected — merely the
more to lose in future earning
possibility of their withdrawing from
The emphasis on future (or lifepower. “Women who do have children
the labor force plays a role in how
time) labor supply is the key
and then separate from their jobs
much work they decide to do.
difference between the human capital
typically are selected from the group
Though not specifically tested, in
analysis done by Restuccia and his
that doesn’t have a lot of human capiprinciple the results may even explain
co-authors and the standard way
tal,” Restuccia says in an interview.
wage differences between men and
scholars have studied the wage gap.
“So this selection effect mitigated the
women in the same jobs. A female
In the standard approach, wage differportion of wage losses that was due to
attorney may have fewer incentives
ences can’t be explained by observable
specific human capital.”
to, say, work 80 hours a week in prifactors. Men and women may have,
This finding seriously threw into
vate practice trying to make partner,
for example, nearly identical resumes
question the assumption that speciinstead choosing a more 9-to-5 job
and years of experience — so why do
fic human capital is important enough
that requires legal skills. “It’s a decimen make more money than women?
to account for the difference in wages
sion about how much effort to put
Even when comparing among
between men and women. Not
into human capital accumulation,”
specific occupations and years of
satisfied, Restuccia and his co-authors
Restuccia says. “Children are going to
experience, women are paid less than
decided to go back to the drawing
affect the lifetime labor supply of
men. The standard approach suggests
board. They needed a deeper underwomen. Our model can go a long way
that this “unexplained” difference
standing of the wage gap. Where the
in accounting for the differences in
must be attributable to labor market
original Mincer and Polachek work
wages between men and women.”
discrimination. Instead, the human
tested only the overall force and
capital approach takes into account
direction of the human capital
people’s incentives with regards to
channel, Restuccia and his colleagues
Maternity Leave Revisited
the future.
sought a quantitative answer to how
Given these findings, it’s particularly
The authors took pains to calibrate
much human capital incentives
interesting to note that one of the
their model to real-world conditions:
explain the gender wage gap.
possible policy prescriptions that
The percentages of women with
This time, they built their model
Restuccia thinks worth considering is
children, when they have children,
so that human capital was not
some sort of leave program. Though
and how many were the same in the
necessarily job-specific but simply
his first paper skewered the notion,
model as empirical data show them to
built up over time in the labor
the second paper allows that experibe. Children are the “shocks” in the
force — skills that could be used in
ence doesn’t have to be job-specific.
model, the only thing that differentiany number of occupations. To
In this environment, leave policies
ates male and female expectations
Restuccia’s knowledge, this was
may increase women’s attachment to
about the future. The resulting prices
one of the first attempts to apply
the labor force, which in turn would
and wages were reflective of all
“quantitative theory” modeling
give them greater incentives to
the conditions in this model’s envitechniques favored by macroeconoaccumulate human capital.
ronment. They also used panel data
mists to the question of human
Think of it this way: What
(as opposed to the standard BLS data
capital’s role in the gender wage gap.
ultimately matters most for the wage
which is a cross-section of people’s
(Most analyses of the gender wage gap
gap is that over their careers women
wages over time), in which people
have relied on regression models
supply much less time to the labor
were followed over their careers and
that use empirical data.)
market than men. As a result, women
34

Region Focus • spring 2006

make lesser investments in human
capital than men and, by extension,
get paid less. Parental leave policies
might help address this issue, but they
still don’t get to the heart of the problem of how to increase female labor
force participation. Any policy aimed
at closing the gender wage gap ought
to allow women to supply as much
time to the labor market as men.
“It’s clear that leave policies
should be studied in this framework,”
Restuccia says. “If parental leave
policies do affect employment and
hours of work, they will have an effect
on wages.”
Given a choice, Restuccia (and
Polachek agrees) favors greater availability of child care services over
leave policies, in part because the
latter has the potential of penalizing
the employer who has to keep a job
open. Moreover, child care services
(or more flexible jobs) directly target
the difference between men and
women, that of women not being
able to see themselves dedicated
to work as men do.
The wage gap endures, but it has
shrunk significantly. In 1979, the
overall difference was 38 percentage
points; today it is 20, according
to government figures. The notion
that labor market discrimination
continues to play a significant role
has been hard to shake, even as, theoretically at least, it’s hard to imagine a
truly competitive world where that
would happen. For example: If there
really was a pool of qualified workers
who could be paid 20 percent less

than another pool of equally qualified
workers, then firms that hired the
less costly workers would make a
killing in the marketplace. Eventually,
in a competitive world, wages would
have to be equalized.
At the same time, by no means
does Restuccia think his research
rules out a role for market discrimination. It could be that market
discrimination is just one of many
“shocks” that women encounter in
their work lives and that is propagated
by employment and human capital
accumulation decisions. It may be
something that women factor in
when deciding how much to work
and to invest in human capital accumulation (though the economists’
model does not test this idea). But to
Restuccia, the findings mostly
suggest that corporate discrimination is not as important as once
thought. As with Polachek, Restuccia
sees a greater role for home-based
discrimination than market-based.
Societal norms pull more women into
the home than market norms.
A more straightforward explanation for why the wage gap persists
but has been shrinking is that women
are working more — from labor force
participation of 50.9 percent in 1979
to 59 percent in 2004 (though gains
have flattened in recent years).
Meanwhile, male labor force participation is sliding, from 77.8 percent
in 1979 to 73.3 percent today. These
parallel trends are perfectly in
keeping with human capital theory.
The more one’s lifetime labor force

participation, the greater the incentives and the benefits (in the form
of higher wages) to investment in
training and experience.
Labor-saving devices in the home —
ranging from vacuum cleaners to
microwave ovens — are thought to
have contributed to the surge of
women into the workplace. So, too, has
the general shift into a more
service-oriented economy. Also, women
are having fewer children, meaning
they have different expectations about
future job separations than their mothers. At the same time, women are
taking part-time jobs, the likes of
which didn’t exist in any significant
numbers in 1950. A big chunk of the
recent labor force gains of women are
attributable to part-time jobs.
It is on that front that economists
Restuccia, Erosa, and Fuster want to
proceed. The extent to which availability of flexible and part-time jobs, as
well as child care services, can close
the gender wage gap is next up on their
to-study list. “Maybe policies should
be implemented to allow women to
balance the time they have to put into
home with their kids but still be in the
labor market,” Restuccia says. “As long
as they’re able to supply labor time to
the market that is close to that of
males, then the incentives are going
to work out that women acquire as
much human capital as men.”
Which means that, in the absence of
overt discrimination, women will
earn as much as men, and this
particular battle of the sexes will
be history.
RF

READINGS
Becker, Gary S. Human Capital (3rd ed.). Chicago: University of
Chicago Press, 1994.
Erosa, Andrés, Luisa Fuster, and Diego Restuccia. “A General
Equilibrium Analysis of Parental Leave Policies.” Federal Reserve
Bank of Richmond Working Paper no. 05-08, August 2005.
___. “A Quantitative Theory of the Gender Gap in Wages.”
Federal Reserve Bank of Richmond Working Paper no. 05-09,
September 2005.
Goldin, Claudia. Understanding the Gender Gap: An Economic History
of American Women. New York: Oxford University Press, 1990.

Mincer, Jacob, and Solomon Polachek. “Family Investments in
Human Capital: Earnings of Women.” Journal of Political Economy,
March/April 1974, vol. 82, no. 2, pp. s76-s108.
Polachek, Solomon. “How the Human Capital Model Explains
Why the Gender Wage Gap Narrowed.” Institute for the Study of
Labor Discussion Paper 1102, March 2004.
Waldfogel, Jane. “Understanding the ‘Family Gap’ in Pay for
Women with Children.” Journal of Economic Perspectives,
Winter 1998, vol. 12, no. 1, pp. 137-156.

spring 2006 • Region Focus

35

INTERVIEW
Raymond Sauer
When people ask career counselors for advice, a
common response is: Do something you love and
you’ll never be bored. It’s a bit trite, of course, but
it’s also generally true. Raymond Sauer is a good
example. He has been able to combine two of his
interests — economics and sports — to his professional advantage. In a series of papers, he has used
the tools of economics to answer questions from
the world of sport, and in the process produced
insights for economists working in industrial
organization, labor markets, and other fields.
Sauer is chairman of the Department of
Economics at Clemson University. In addition
to his work on the economics of sports, he has
written about the economics of regulation,
monetary economics, and the organization of
academic labor markets.

Aaron Steelman interviewed Sauer on the Clemson
campus in Clemson, S.C., on Feb. 21, 2006.

36

Region Focus • spring 2006

RF: How did you get interested in the economics
of sports?
Sauer: I became interested when I read a paper assigned in my
first graduate microeconomic theory course. It was titled
“Pay and Performance in Major League Baseball” by Gerald
Scully, and it appeared in the American Economic Review in 1974.
I think that’s one of the best papers written in economics in the
past 50 years. It took economic theory, applied it to a
relevant and current topic, and made a prediction. And, lo and
behold, free agency came to Major League Baseball shortly
afterward and proved Scully’s theory and application to be dead
on the mark.
Essentially, Scully studied data on players’ productivity and
wages from the late 1960s, a period when players were subject
to the reserve clause. That meant they had virtually no bargaining power. They either re-signed with the team they were with
or they went back to the farm, which some of them did. But
when Marvin Miller, head of the players’ union, argued that the
contract actually permitted free agency and an arbitrator
agreed with him, the whole game changed. Players began to be
paid according to market rates, and salaries increased by multiples that were consistent with what Scully’s model predicted.

PHOTOGRAPHY: PATRICK WRIGHT/CLEMSON UNIVERSITY

Since February 2004, he has maintained a blog
devoted to economic commentary on sports and
society, thesportseconomist.com, which features
occasional posts by other contributors.

So that paper was truly great and inspired me to look more
closely at the economics of sports.
Then there was a paper that wasn’t so great. The topic was
the supposed inefficiency of betting markets in the National
Football League (NFL). I had gotten interested in the work in
rational expectations and financial market efficiency, and here
was this paper that said it was easy to make money betting on
football games, that there were opportunities just waiting to be
exploited. I thought this was not consistent with theory,
gathered data to assess its merits, and concluded it wasn’t right.
So that was the first time I applied economics to sports in a professional way, and it led to one of my earliest published papers.
RF: The field seems to be gaining popularity within the
profession. Why do you think there is more research being
done in this area now?
Sauer: I think it comes down to two things. One, economics is
data-driven, and there are a lot of good data available in sports.
Second, sports are popular and are a market like any other so
they present useful opportunities to take economic theory and
apply it to issues that interest a lot of people.
RF: Each of the four major North American sports
leagues, with the exception of Major League Baseball, has
faced a rival league over the past 40 years. In some cases,
the rival league has introduced changes that the dominant
league eventually adopted. And some of the rival leagues’
franchises eventually became members of the dominant
leagues following mergers. But none of those leagues was
able to supplant the incumbent. Why? Can you imagine
conditions under which one of the incumbents could be
driven out of the market by a new entrant?
Sauer: I think it would take a colossal mistake for one of the
major leagues to be supplanted by an upstart. There’s a tremendous amount of social capital that is embedded in loyalty to
teams, rivalries, and so on. That goes beyond appreciation of
the game itself.
This is true in the North American leagues, but the best
example is European soccer. If you watch the Italian Soccer
League, for instance, you will see that the fans are packed
behind the goal, which is one of the worst places to actually
view the game. You get a much better view from being at midfield. But they are behind the goal for purely social reasons. So
it’s something other than the game itself that is capturing the
attention and imagination of the fans. That’s an extreme
example of what I am talking about, but we see it in almost all
sports. It’s not easy to re-create that loyalty even if you
introduce a new league with great talent and innovative rules.
I think the existing leagues have figured this out, and they
design their competition to take advantage of it. Once upon a
time, sport was performance art, like figure skating or boxing.
It’s not an event any longer. It’s a drama that unfolds over the
course of a season, which is a pretty long time, and leagues have
structured themselves accordingly.

In fact, I think this is the biggest thing that separates sports
which have been economically successful over the past 50 years
from those that haven’t. People no longer have great interest in
watching a single event. They want to watch a sequence of
events tied together over time that lead to a big finale like the
Super Bowl or World Series.
Also, some of the sports that were very successful in the past
but are having problems now, like boxing, are organizationally
inept. Owners and officials in baseball, football, and basketball
realized that they needed to become organized and unified and
behave like a firm. That never happened in boxing. You have
several warring factions that have been unable or unwilling to
act together in the way that the team sports have. For instance,
you still have several sanctioning bodies: the World Boxing
Association, the World Boxing Organization, and the
International Boxing Organization among others. That presents
some real difficulties for the sport, from both a fan standpoint
and an economic standpoint. Then, of course, there is the issue
of corruption, which still exists and troubles the sport.
RF: How about rival leagues with less ambitious goals —
leagues that aren’t designed to become dominant but
rather serve a niche market? Is there sufficient demand to
keep those leagues afloat, given what you have said about
consumer loyalty to existing teams?
Sauer: The Arena Football League fits that description, I
think. The league has been going for some time now, a lot of
people like the game, and the league is making money. It has an
interesting business model, and markets itself as professional
football, without attempting to supplant the NFL. It’s
satisfying a demand that is out there, and the players are highly
versatile and talented athletes who just can’t make it in the
NFL. In part, that’s because the skills required to play in the
NFL have become so specialized.
Could the Arena League become more interesting than the
NFL? Maybe. But it’s going to be very difficult to get, say,
Pittsburgh Steelers fans to switch their loyalties.
In general, I think we are looking from the top of the
mountain now in professional sports. The growth that we have
seen in the past century has been absolutely phenomenal. If you
were living in 1950 and were trying to forecast what the most
popular sport would be in 2006, you might have said horse
racing. The NFL, NBA, and NHL weren’t nearly as popular as
they are today. Baseball was it in terms of team sports. Some
other form of competition could, in the future, attract people’s
interest, but what that would be is very hard to say.
RF: What do you think accounts for this tremendous
growth in professional sports?
Sauer: Looking at purely economic factors, you have to say that
the growth in income and leisure time are most important. But
there’s no inherent reason why that increased income and
leisure time would go toward sports instead of, say, opera.
Sports have the advantage of being accessible. It doesn’t require

spring 2006 • Region Focus

37

a great deal of time investment to understand and appreciate
what is going on. There’s another thing that I think is important. Most kids play sports from a very early age. And even if
they don’t progress with it and play on, say, their high school or
college teams, they tend to maintain an interest
in sports throughout their lives.
RF: What do you think of revenue sharing as a way to
increase parity in professional sports leagues?
Sauer: Theoretically, it doesn’t work. Revenue sharing
decreases the monetary incentive to acquire talent in equal
proportion for both big market teams and small market teams.
And it works this way in practice also.
Let’s consider an example of a league that has revenue
sharing — the NFL. You have had franchises that for a decade
apparently just didn’t care about putting a competitive team on
the field. Their teams could stink, they could lose fan base, but
they could still collect a big check from the NFL and make
money. The Cincinnati Bengals were
a good example of that from the early
1990s until recently.
Generally, I think the NFL has a
big problem. Red McCombs, the former owner of the Minnesota Vikings,
was recently quoted as saying that the
NFL had the best business model of
any sport in the world. The owners
do make a lot of money. But they didn’t build the league by being socialist, and they are the most
socialist sport in the world. That doesn’t bode well for future
growth.
I think it’s more compelling to watch a clash of the titans
than it is to see the best of a mediocre lot. NFL rules, which are
designed to share the wealth and get parity, don’t produce
excellence. I think we saw that in the last Super Bowl. It was a
mediocre event this year. People follow dynasties; they don’t
follow the winner of a coin-flip competition. And NFL rules,
unless they are changed significantly, can produce something
akin to a coin-flip competition.
Don’t get me wrong. There are still great athletes in the NFL
— some of the best athletes in the world — but, as I said before,
we don’t necessarily watch sports to see great individual
performances. We watch them for the team competition. Also,
in a sport like football, unless a great player is on the same team
with other great athletes, his ability to showcase his talents is
severely limited. For instance, if a guard misses a key block, it
doesn’t matter what the quarterback or wide receiver can do.
One player’s productivity is related to his teammates’ productivity. So even the element of great individual performance is
in jeopardy.
There are some people in the NFL who are aware of the
problems that the league faces, and they may be able to push
the league in a more competitive direction. But a lot of the
owners who are raking in money now will resist. And as it
stands, the NFL faces some very serious problems. Parity is not

a goal worth pursuing at the expense of drama, excellence, and
great competition.
RF: So you would say that parity is overrated?
Sauer: Yes. Look at Major League Baseball. The New York
Yankees have had some lean years in their history. But, overall,
they have been the model of excellence for a very long time.
And people still love to watch them play — whether to cheer
for them or to boo them.
European Soccer is another example of a sport that has had
dominant teams for a long time. That’s true, in large part,
because teams are generally free to buy talent as they see fit.
Players will move to the teams that most value their skills, and
there is great competition among owners to attract those
players. It’s an open system, and there is a trap door at the
bottom. If you don’t win enough games, you fall into a lesser
league. You might argue that they go a little too far in the
direction of single-team or two-team dominance, but the sport
is still extremely popular. I should
also note that most European soccer
teams actually do not make money
over the long haul. They have huge
revenues, but even bigger expenses.
Most clubs need a capital call every
few years, and generally there are
wealthy fans and investors who are
willing to meet those calls.

Parity is not a goal worth
pursuing at the expense
of drama, excellence, and
great competition.

38

Region Focus • spring 2006

RF: Do you find it surprising that many European
countries which have public policies based on the
social-democratic model at the same time have quite
market-oriented rules for their sports teams, while in the
United States the situation is often reversed?
Sauer: Sure. It’s a deep irony. And I don’t really have a good
explanation for it. Perhaps a sociologist would be better
equipped to answer that question than an economist.
RF: Are there economic reasons why professional soccer
has had such a hard time gaining widespread attention in
the United States, despite its overwhelming popularity in
other parts of the world?
Sauer: I think it goes back to the social capital idea. It takes a
lot to overcome the incumbent advantage of sports like
baseball, basketball, and football, which are popular today in
the United States. I think that, slowly, soccer will gain fans and
there may be a tipping point. But one of the interesting things
about Major League Soccer (MLS) is that some of the leading
figures are also involved with the NFL. Lamar Hunt, the
founder and owner of the NFL Kansas City Chiefs, also is
’s
one of the founders of MLS and owns a team in the league.
MLS has something like the NFL business model. And I’m
’s
not so sure that Hunt really wants MLS to grow and for teams
to compete in the way that some other owners in the league

Maryland, Virginia, North Carolina,
and South Carolina. But eventually
that regional image was viewed as a
® Present Position
liability and something that the
conference wanted to shake, so it
Professor and Chair, Department of
Economics, Clemson University
expanded all the way up and down
the coast.
® Previous Faculty Appointments
A similar thing happened in the old
University of New Mexico (1985-1988)
Pac-8, but earlier. They wanted to
® Education
expand and actually added two
B.A, University of New Mexico (1979)
schools in a state that doesn’t even
M.A., University of New Mexico (1981)
border the Pacific Ocean — Arizona
Ph.D., University of Washington (1985)
and Arizona State — to form the
® Selected Publications
Pac-10. The SEC expanded as well,
and so did the Big 8. I think this has
Author or co-author of several papers in
such journals as the American Economic
come at some cost to the sporting
Review, Journal of Political Economy, Journal
competition — for instance, North
of Economic Literature, Journal of Finance,
Carolina State will no longer play
and Journal of Sports Economics
Duke twice a year in a home/home
series — but to the advantage of
getting national exposure and more media revenue. Schools in
the ACC will now play conference games in Miami and Boston,
two major media outlets, and that can be a big benefit.
RF: What do you think of proposals to pay college athletes?
It’s amazing when you look at the license plates from the
students on campus here at Clemson. They come from
Sauer: Well, actually there is some payment. Every time college
everywhere. I think most universities that want to be perceived
players go on the road for an away game, they get a per diem
as quality places will try to get national recognition, and one big
payment to cover meals and other expenses. That’s more than
way to do so is by playing sports on national television. You
they used to get. Will this evolve into a system where there are
don’t get that type of exposure by playing only nearby schools.
significant monthly stipends, thousands of dollars per month
If you win big, you get noticed. So I think college athletics is a
per player? I doubt it.
form of competition for attention, much like advertising.
For the big-revenue sports — like football and basketball —
the money is there. For instance, coaching salaries have
RF: What do you think of the hypothesis that Michael
exploded recently, because if a guy can win without cheating,
Lewis put forward in Moneyball?
he’s worth a tremendous amount of money to the school. The
same is true of players. You can’t necessarily identify who those
Sauer: Moneyball was a fascinating book. It had great writing, a
guys are in advance. There are a lot of great high school players
great story, and was compelling reading. But at the core
who wind up being only mediocre college players. But once
of it was an economic idea: that wages in the market for
it becomes clear who the stars are, those guys are worth
professional baseball players were not well-priced, and that one
huge amounts of money to their schools. But I think there is
could exploit these discrepancies to win a lot of games at
great aversion among sports fans to paying college players an
relatively low cost. In particular, the ability to take a pitch and
amount that is something proportionate to the revenue that
to get on base in any way you could were undervalued. The
they bring to a school. Whether that is rational or not, I think
Oakland Athletics — and, in particular, their general manager
it is a serious impediment to liberalizing compensation rules for
Billy Beane — figured that out, and were able to get to the
college athletes.
playoffs for several consecutive years on a very tight budget.
RF: What do you think has been driving the realignment of
At its core, I find the Moneyball hypothesis offensive. I tend to
major college athletic conferences?
think that, as a general matter, labor markets work quite well, and
returns to skill are valued appropriately. But the Oakland example
Sauer: I think the fundamental reason is that competition has
was in opposition to my belief in labor market efficiency. So my
become national. In the old days, Clemson University used to
colleague Jahn Hakes and I decided to investigate it more in a
play in the Southern Conference. But in the 1950s, Clemson
paper that will be coming out in the Journal of Economic
and Maryland chafed at some of the Southern Conference rules
Perspectives. We found that Lewis’ offensive idea was correct.
and led the revolt to form the Athletic Coast Conference
On-base percentage was undervalued, and buying on-base
(ACC), which was built on the eight-team model that was very
percentage went a long way toward explaining Oakland’s success.
common then. The ACC was perceived as Tobacco Road, a
How do we explain this? I think what Lewis found was a
regional conference that stretched across only four states:
very clear-cut example of institutional inertia. A lot of old
have in mind. For instance, their current business model — teams
generally play in pretty small stadiums
and don’t bid for the services of the
big European stars — doesn’t make
for a compelling, top-notch product.
So, getting back to one of your
earlier questions, if there is a league
that is ripe to be supplanted by an
upstart, maybe it’s MLS. There
appears to be growing demand for
professional soccer in the United
States, and MLS is not meeting that
demand very well, in my view. Sport
these days is a media-driven business,
and the skill on display in an MLS
match is nowhere close to that in
Europe. Americans will watch the
more compelling spectacle, even if
the match may be taking place in
Barcelona or London.

Raymond Sauer

spring 2006 • Region Focus

39

baseball scouts had a certain idea of which skills
made for a good baseball
player — and those
weren’t necessarily right.
Yet once those ideas
took hold, they tended to
stick. Someone eventually questioned and tested
them, and decided there
was another way to
evaluate talent. Beane
was a real innovator, and
he was able to exploit the
opportunities that he
saw. But it’s very hard to
do this over an extended period of time. This information will
be exploited by others — indeed, we have seen it recently with
several other teams. Just about every front office in Major
League Baseball has guys poring through data looking for
statistical patterns that can give them an advantage. As a result,
there will be new innovations in assessing talent that might
prove even more effective.

RF: People often complain that tickets to sporting events
have become too expensive. But for many games, at
current prices, demand greatly outstrips supply. Why don’t
franchises and leagues respond to such demand by upping
the price of tickets instead of having them sold on the
secondary market at prices well above their face value?
Sauer: Well, the tickets are more expensive now — a lot more
expensive — because demand is so high. Part of what is going
on is that quality seats have become luxury goods. So great tickets are very expensive, but baseball clubs can’t give away upper
deck tickets. The Oakland A’s just decided to cover them up
with a fancy tarp. So there is a tricky pricing problem here —
how variable should prices be across seats and games,
particularly when there is well-established demand for season
tickets? Now, the clubs could operate secondary markets
themselves, but if we look at rock concerts, the bands that
adopt this function still price well below market. They attempt
as best they can to keep the tickets in the hands of “real fans.”
On this point, I don’t think economic reasoning has gotten us
very far, even though an economist as brilliant as the late
Sherwin Rosen took a crack at it.

RF: Has the exposure that Moneyball received affected the
field of sports economics?
Sauer: Not much, I think. The paper that Hakes and I did has
been well-received and has been downloaded a lot. But I think
there are some examples that go beyond Moneyball that are
interesting to note here. There are a number of papers where
people have modeled different games, and it’s interesting for
us as economists and applied econometricians to do those
exercises. We don’t have an impact on things very often, but
occasionally we do. One example of this is the work that David
Romer did on fourth-down decisions made by football
coaches. If you model a football game properly, you can look at
the costs and benefits of doing various things. The thing that
Romer focused on was the decision to give up the ball on
fourth down by punting. It turns out that coaches were
extremely conservative on this point. They hardly ever went
for it on fourth down, even in short-yardage situations in their
opponent’s territory. But if you look at the data, there are no
real benefits from punting in those situations and the net costs
can be very large.
Over time, I think Romer’s message has gotten through.
You see a lot more people going for it on fourth down than in
the past. Bill Belichick, the head coach of the New England
Patriots, makes decisions that are very data-driven — he was an
economics major at Wesleyan — and he goes for it on fourth
down a lot of the time. Similarly, you see more coaches going for
the touchdown now instead of settling for a field-goal attempt.
So coaches are increasingly taking risks when they are
appropriate, and I think the work economists did pointing out
the costs associated with excessive caution helped move them
in this direction.
40

RF: What do you make of the claim that white sports stars
command a salary premium compared to black and
Hispanic players of similar or even superior skill?
Sauer: A few of my colleagues have worked on these questions,
and there is some evidence that white players do command a
salary premium in today’s market. The evidence is not especially
strong and what does exist suggests that the premium is rather
small. But it’s there. One might regard it as prima facie evidence
of discrimination. Or it could be something that is unobserved,
correlated with race, and not captured in the model.
But, over a longer period of time, there is a lot of evidence of
discrimination. Blacks were permitted to play in professional
football, then banned, and then permitted to play again. In
baseball, blacks were excluded for the first half of the 20th
century. So the ability to even get on the playing field was
limited by discrimination. You had integration, but it was a
long, hard process. As social mores changed, there was real
opportunity for innovation. There was this very large untapped
pool of black talent out there, and innovators like Branch
Rickey recognized it. What’s interesting, though, is that the
best teams led the drive to integration. They were the ones that
first signed black players and so these teams got even better.
Two of my colleagues at Clemson, Bob Tollison and Bobby
McCormick, along with Brian Goff of Western Kentucky
University, had a very interesting paper on this topic that
appeared a few years ago in the American Economic Review.
As for salaries, I haven’t seen good data from this period —
say, the late 1940s and early 1950s. I would like for the question
of wage discrimination from this era to be examined. The
conditions then were stark, much starker than the present day.
So one would suspect that the evidence for discrimination
would be stronger than it is now.

Region Focus • spring 2006

RF: Elected officials often claim that professional sports
teams bring substantial economic benefits to a city, both
direct (spending at the stadium and nearby businesses) as
well as indirect (makes the city more attractive to talented
workers). How large are those benefits, in your opinion,
and do they justify public funding of new stadiums?
Sauer: Well, I think the second claim is true. Many talented
people do like sports, and those people generally like to live in
areas where they can watch live sporting events. And since
there are a limited number of pro franchises available, having a
professional sports team is a benefit to a city. I don’t think it’s
implausible that some companies base their location decisions,
in part, on whether amenities like this are available to their
employees and potential employees.
But the claim that new stadiums can act as a more general
development tool strikes me as a pretty questionable idea.
There has been a lot of work done in this area, and no reputable
study has found that, on average, there are substantial economic effects. It’s generally not a winning proposition for a city.
There might be more activity around a stadium or arena on
the night of a game. But what about when those teams are on
the road or it’s the off-season? There are usually very few
people around. Also, households generally have a budget for
leisure expenses. If you build a stadium, you might see more
dollars go to businesses around that stadium during certain
times of the year, but that increased spending tends to be offset
by reduced spending somewhere else.
To take a recent example, I think the deal Washington, D.C.,
struck to build a publicly funded stadium represents the ugly
side of sports. Major League Baseball owners, in my opinion,
took the residents of the District of Columbia to the cleaners.
The league — meaning, essentially, the current teams’ owners
— set a limit on how many franchises there will be. So there are
30 teams, and when one of them is looking to move, a bidding
war erupts among cities. And Washington, D.C., simply overpaid. Policymakers can spend other people’s money pretty
readily, and owners of franchises are taking advantage of that.
RF: One of the fastest growing sports is stock-car racing.
NASCAR has gone from a pretty small and mostly
regional sport to one with widespread national appeal.
What accounts for its growth?
Sauer: NASCAR’s rise — and its growth relative to Indy
Car racing, for example — I think is due to its economic
organization. The guys at NASCAR have been able to unify the
old stock-car racing circuits into a more coherent organization,
and they understand that people want to watch a season-long
event. There are select races — Daytona, Talladega — that get
more attention than others. But, generally, fans follow it over
the course of a season, just like they do with team sports.
NASCAR has refined its points race in a way that produces real
drama. And we are seeing other individual sports follow
NASCAR’s lead. For instance, in golf, the PGA will implement
a season-long points race next year.

RF: Getting back to your work on sports betting
markets, are there some areas of those markets that are
less efficient than others?
Sauer: As I said before, I think sports betting markets are
overwhelmingly efficient. Bookmakers aren’t in business
to just give money away. They know what they are doing,
and the point spreads they establish are a very good
forecast of what is going to happen. But if there is one
area where the lines tend to be wrong in something
approaching a systematic way, it’s with home underdogs.
Betting on home underdogs in basketball and football,
over a long period of time, tends to be slightly profitable.
But the margins, even here, are quite small. Still, it
suggests that we as fans, and also the bookmakers, don’t
have a really good understanding of what home-field
advantage means for a team.
I don’t want to make too much of this point, though.
Betting lines are, by far, the best predictor of what is going
to happen in a game. And that shouldn’t be particularly
surprising. There’s money on the line, after all, and that’s a
powerful incentive to get things right.
RF: Do you have a sense of who reads your blog,
thesportseconomist.com? Is it primarily sports fans,
other economists, or a combination of the two?
Sauer: We have a pretty eclectic audience: sports fans,
economists, reporters, all sorts of people. I launched it
two years ago this month. I did it for one year by myself,
but once it got some traction I decided to get some
collaborators to bolster and expand the content. I think
that’s the right model for more academic-oriented blogs. If
you can get a group of people who can stay focused on a
relatively well-defined set of topics, then you can generate
some really good material.
The blog is a nice medium because it gives you exposure
to people you otherwise might not have met and ideas
you might not have encountered. This includes even other
economists who are doing work on similar questions, but
with whom you are unfamiliar.
RF: Which economists have influenced you the most?
Sauer: I have picked up insights from a lot of people along
the way. But the guy who made the biggest difference in my
coming to Clemson and perhaps in the way I look at
economics was Donald F. Gordon. Don was a brilliant
economist. He never wrote very much, but what he did was
pure gold. Just sitting and talking with him over lunch was
quite an experience because you were in the presence of
real genius. There’s a quote in Doug North’s Nobel Prize
autobiography which says that Don Gordon taught him all
the economics he ever knew. That may be overstating the
case, but I never failed to learn something from every
conversation that I had with Don.
RF

spring 2006 • Region Focus

41

ECONOMICHISTORY
Time Travelers
The Fifth District’s
storied history is
attracting a growing
number of heritage
tourists

very year, about half a million
people visit a mountainside near Charlottesville, Va.
There’s no theme park or luxury resort
to see. Instead, they have come to
learn about a Virginian who wanted to
be remembered for supporting political, intellectual, and religious freedom.
They have come to see Monticello, the
former residence of Thomas Jefferson.
The house and grounds offer a
glimpse into how the nation’s third
president lived out his retirement
years — tourists enter the same doorway that foreign dignitaries, government officials, and other guests used
when they visited “the sage of
Monticello.” Monticello also reflects
Jefferson’s progressive thinking
and penchant for innovation — he
designed an early copy machine so he
could maintain records of his writings
and stocked the library with as many
as 6,000 books, which later became
the nucleus of the present-day Library
of Congress.
In a modern society where many
goods and services have become commoditized and boring to some

E

Monticello, the former home of Thomas Jefferson, embodies the intellectual
legacy of the man who invested 40 years of his life in its design and construction.

42

Region Focus • spring 2006

consumers, one-of-a-kind experiences
at places like Monticello can
command a premium price. This has
given communities a potential
resource from which to extract
economic value: their unique heritage.
“A lot of places have historic
attractions, and we are very fortunate to have them,” notes Mark
Shore, director and CEO of the
Charlottesville/Albemarle County
Convention & Visitors Bureau. Two
other presidential residences are
within 30 miles of Monticello: James
Monroe’s Ash Lawn-Highland in
Albemarle and James Madison’s
Montpelier in Orange County.
Heritage tourism uses the local
landscape, architecture, artifacts, and
practices that make a particular place
special. It includes physical sites as
well as the deep-rooted traditions and
native skills that define a community.
In short, it encompasses any experience that portrays a collective history,
from watching a Cherokee Indian
perform the eagle dance in western
North Carolina to touring a rice plantation in South Carolina’s Lowcountry.
There is considerable overlap
between these experiences and activities involving culture or the arts.
According to a 2001 report published
by the National Trust for Historic
Preservation, the primary difference is
that heritage tourism is place based.
“… Viewing the work of a great master
artist in his home and studio is a
heritage tourism experience, while
viewing those very same pieces of art
in a traveling exhibition is a cultural
tourism experience. The content is the
same while the context is different.”
Still, the lines between heritage and
cultural tourism are easily blurred.
Sightseeing based on heritage or
culture is as old as tourism itself,
driven by people’s motivations to
rediscover their past. Interest in this

PHOTOGRAPHY: CHARLES GERENA

BY C H A R L E S G E R E N A

once-niche market has heightened
over the last two decades, both on the
consumer side and the producer side.
Not every community has successfully
mined its heritage resources, though,
nor does every place have something
marketable. Ultimately, economics
plays a big role in determining what
parts of a community’s heritage get
preserved and what parts are lost to
the ages.

The Way to Preservation
“The issue is whether or not you look
at the decision over a long enough
period of time,” explains Elaine
Carmichael, a Wisconsin-based
tourism development consultant who
helped West Virginia plan its National
Coal Heritage Area. She says studies
have shown how historic preservation
delivers financial rewards in the long
run. But developers looking for shortterm rewards may not be interested in
such projects.
It often takes a wealthy individual’s
intervention to preserve a historic
property, says Amy Webb, director of
heritage tourism at the National Trust.
When a property comes on the
market, an affluent person has the
financial resources to take advantage
of the opportunity, whereas a private
or nonprofit entity would probably
have to raise money to do it, and that
can take time.
This is how the collection of presidential residences in central Virginia
was preserved for future generations
and heritage tourists. Monticello,
Montpelier, and Ash Lawn-Highland
were saved from extinction by people
with money and an appreciation of
history, then turned over to nonprofit
groups that serve as caretakers.
Uriah Levy was one of America’s
earliest historic preservationists,
believing that the houses of great men
should be preserved as “monuments to
their glory.” The naval officer and real
estate
entrepreneur
purchased
Monticello in 1836 from a local
druggist, who was mired in debt and
unable to make minimal repairs to a
house that was already deteriorating

when he bought it from Thomas
Jefferson’s family a few years earlier.
Levy immediately began restoring
Monticello’s interior, repairing the
exterior, and reclaiming the gardens
that had been cut down by the
previous owner. Eventually, he opened
the home to others who admired
Jefferson as much as he did.
His nephew, Jefferson Monroe
Levy, saved Monticello for a second
time after it was seized by the
Confederacy during the Civil War and
tied up in legal disputes following
Uriah’s death in 1862. He gained control of the home in 1879 and poured
more money into its restoration from
his earnings as a lawyer, investor, and
U.S. congressman. He, too, allowed
visitors to tour the house and grounds
until he sold it in 1923.
The Thomas Jefferson Foundation
purchased Monticello after the Levy
family’s offer to sell the home to the
federal government became mired in
congressional debate during World
War I. The group immediately opened
the home to the public and attracted
20,000 visitors, each paying a 50-cent
admission. It used this income, as well
as gift shop sales and fund-raising, to
pay off the money it borrowed to
buy Monticello and to stabilize the
property over the next 20 years.
The foundation’s mission has
evolved from preserving Monticello as
a shrine of Jeffersonian ideals to
expanding into other activities. “The
transition was evolutionary,” notes
Daniel Jordan, the foundation’s
president. “If you have a great
resource, why not make it a center for
scholarship and outreach?” The goal
now is “to save and to share.”
Today, the foundation operates a
center for Jeffersonian research,
whose scholars-in-residence have
published 25 books and organized
more than 20 conferences worldwide.
It also runs a center for historic plants
that propagates heirloom varieties and
distributes them to individuals and
institutions. The centers have roots in
Jefferson’s dedication to scholarship
and horticulture.

Packaging History in the
Fifth District
Heritage tourism isn’t limited to the
four walls of a historic home or county
museum. It comes in various packages,
generally falling under one of three
categories: natural (landscapes, native
plants, and animals); cultural (festivals,
crafts); and built (monuments, industrial
sites). Here are some examples in the
Fifth District:
Natural
• Catawba Indian Reservation: A 1.5mile trail with interpretive signs shows
how the Catawba used to live on this
714-acre reservation near Rock Hill, S.C.

• Natural Bridge: Owned by Thomas
Jefferson at one point, this formation
has attracted visitors to southwest
Virginia since the 1800s.
Cultural

• Hanover Tomato Festival: Held
annually in Hanover County, Va., this
event celebrates the popularity of its
native fruit with music, cooking
contests, and appearances by winners
of the Little Miss Tomato and Tiny Miss
Tomato pageants.

• Tamarack: Since 1996, millions of
people have visited this facility in
Beckley, W.Va. to sample fine art, crafts,
and cuisine native to the Mountain
State. Visitors can watch six resident
artisans daily in observation studios.
Built

• Biltmore Estate: Billed as America’s
largest private home, the opulent
residence and grounds of George
Vanderbilt in Asheville, N.C., offers a
glimpse into the lifestyles of the rich
and famous during the Gilded Age.

• U.S.S. Constellation: This National
Historic Landmark, launched in 1854,
was the last all-sail vessel built for the
U.S. Navy. It has hosted visitors to
Baltimore’s Inner Harbor since 1955.
— CHARLES GERENA

spring 2006 • Region Focus

43

The Past as a Source of
Pleasure and Profit
Tourism has been around for a long
time. The Romans traveled to see the
pyramids of Egypt, while young
Englishmen went on “grand tours” of
Europe during the 18th century, often
accompanied by a tutor.
“Tourism was considered the
domain of the elite and the wealthy,”
says Dallen Timothy, an associate
professor of community resources
and development at Arizona State
University. He co-wrote a book on
heritage tourism and edits an
academic journal on the subject.

As per-capita income rose during
the 20th century, the average person
had more resources and leisure time
for tourism. Advances in transportation also made travel easier and less
expensive for the masses.
At the same time, the move to a
more services-based economy left
many Americans yearning to learn
more about the way life used to be.
“The more modernized society
becomes, the more people are going to
appreciate heritage tourism. [It’s] all
about nostalgia,” notes Timothy.
States like Virginia are rich in
colonial and Civil War history, so it’s

not surprising that Charlottesville,
Williamsburg, and other cities in the
Old Dominion have been involved in
heritage tourism for a while. But it’s
only since the 1990s that this market
has been broadly recognized.
One reason is the need for new
avenues of economic activity in rural
areas. The decline in agriculture and
manufacturing has idled labor and
other resources. Also, as the economy
has become less goods-oriented,
communities have been pursuing
service niches like tourism.
Urbanized areas have been turning
to heritage tourism for similar reasons.

All around Matewan, W.Va., are reminders of its place in labor history.
The exterior of the old post office still has bullet holes from the May
19, 1920, gunfight involving the town’s chief of police, the mayor, local
miners, and the security guards hired to evict unionized workers from
company-owned homes.
Interest in this violent episode has brought some heritage tourists
to Matewan. But the town’s isolated location in southern West
Virginia and lack of amenities mean that it faces steep hurdles in
trying to become the next Colonial Williamsburg.
John Sayles’ 1987 movie, “Matewan,” raised awareness of the
town’s story, says Christy Bailey. She manages the National Coal
Heritage Area, one of 27 regions of historic significance designated
by U.S. Congress. Tourists who came to Matewan shortly after the
film’s release expected the quintessential coal mining community
they saw on the big screen. In reality, Matewan looked like any
other small town of the 1980s, which is why the film was shot in
neighboring Thurmond.
Massey Energy joined with local business owners and residents to
form the Matewan Development Center to preserve more of the
town’s history for tourists. The organization marshaled well over
$1 million in state and federal funding to restore nine buildings
and helped the town earn
National Historic Landmark
status in 1997. It also stages an
annual reenactment of the
historic gun battle, as well as a
Hatfield-McCoy Reunion Festival
to commemorate the notorious
family feud that took place in
and around Matewan.
Bailey says Matewan has
done a good job of preserving its
historic resources but needs help
in interpreting them for the
public. “You see the town, but

44

Region Focus • spring 2006

you don’t know what it means,” she argues. A replica of the town’s
former train depot houses a visitor’s center where people can sign up
for a guided tour or view exhibits, but visitors are mostly on their own
when the center is closed.
And there is little else to do, other than rent an all-terrain vehicle
and ride the Hatfield-McCoy Trail System. “This is the coalfields, so
you’re not going to find opera here,” says Cleeta Mullins, executive
director of the Coalfield Convention and Visitors Bureau.
While Matewan has a compelling story to tell, there are
limitations on the size of the tourism sector that can be built around
it. The town has little infrastructure to support throngs of visitors.
The closest lodging options are a six-room bed and breakfast and a
Super 8 motel about eight miles away. Additional accommodations
and a regional airport are available less than 15 miles northwest in
Williamson, but the roads leading there are narrow, curvy mountain
passes that are difficult for tour buses or recreational vehicles to
negotiate.
Also, Matewan is isolated from heritage sites such as the Beckley
exhibition mine, both from a geographic and marketing standpoint.
This makes it harder for tourists to justify a separate trip, putting
the onus on town officials to offer quality historic attractions and
effectively market them. “People
will go off the beaten path if there
is something they want to see,”
notes Bailey.
For now, five more buildings
await restoration. The money and
business support for heritage
tourism isn’t there anymore, says
Johnny Fullen, mayor of Matewan
from 1984 to 1998. The population
has shrunk, businesses have closed,
and the town barely has the
resources to keep police officers
on the streets. — CHARLES GERENA

PHOTOGRAPHY: TIM BOWLING

Matewan Turns to Tumultuous Mining History for Tourism

Downtowns that aren’t the economic
hubs they once were are being rediscovered for their historic theaters,
while old manufacturing facilities are
being redeveloped to give tourists a
glimpse into the nation’s industrial
past. For example, Bethlehem Steel’s
shuttered plant in Pennsylvania is
being turned into a museum of industrial history.
Finally, the tourism industry started
identifying culture and heritage as a
distinct submarket. Initiatives like the
National Park Service’s National
Heritage Areas and the National
Trust’s program laid the groundwork
on the federal level in the 1980s.
“There are two ways of making
money in tourism — get more visitors
to come, and get the visitors who come
to spend more money and stay longer,”
says Webb of the National Trust.
Tourism officials realized that, at some
point, bringing in additional visitors
begins to erode a community’s quality
of life. So, “the idea of looking at
high-value travelers had an awful lot
of appeal.”
According to a 2003 report by
the Travel Industry Association of
America (TIA), travelers who participate in heritage, cultural, arts, or
historical activities or events spend
more money per trip on average —
$623 vs. $457 for other travelers. And
their trips last longer — 4.6 nights vs.
3.4 nights. Part of the reason is that
this category of tourists tends to be
wealthier, with a median household
income of $55,600 in 2002 compared
to $42,409 for the nation as a whole.
At the same time, baby boomers
are getting older, and tourism experts
believe that older people have a

greater interest in their roots. “As
people age, they become more
nostalgic,” says Arizona State’s
Timothy. The TIA’s report confirmed
this assessment, finding that baby
boomer
households
comprised
41 percent of heritage tourism-related
trips in 2002.
The report also found that collegeeducated households accounted for 58
percent of heritage and culture-related
trips (by comparison, about 24 percent
of people older than 25 have a college
degree). Generally, people who are
knowledgeable about history are more
likely to get something out of heritage
tourism, plus education influences a
person’s level of affluence and travel.
These trends have converged to
make heritage tourism a lucrative part
of the travel and tourism industry.
Nationwide, 217 million person-trips
were taken for heritage and cultural
purposes in 2002, or one in five of all
domestic person-trips taken that year.
(A person-trip equals one individual
traveling 50 miles or more away from
home, one way.)
The South Atlantic region, which
includes the Fifth District and three
other states, is a popular destination
for heritage tourism, receiving about
26 percent of historic and cultural
trips in 2002. Among the top 10 states
for heritage tourism were Virginia
(number six) and North Carolina
(number nine). (The District of
Columbia did not rank in the top 10,
despite its wealth of historical and
cultural attractions.)
Where it has succeeded, heritage
tourism has brought new economic
activity to communities. Jobs in
hospitality and tourism tend to offer

lower wages than other employment
sectors, but they provide a secondary
source of income for rural residents
like farmers, says tourism consultant
Elaine Carmichael. They also provide
entry-level jobs for young people.

Intangible Preservation
Preserving the less tangible aspects
of a community’s history is just as
important as preserving physical sites
like Monticello, but it can be even
more difficult to accomplish. “If you
preserve a building, you can solicit
donations to protect it or charge
admission,” notes Robert Healy, an
economist at Duke University who has
studied tourism development. “But
what if heritage is embodied in what a
person knows how to do?”
Healy believes the answer is to
convert the intangible aspects of
heritage into things with economic
value. For example, decoys that used
to be carved for hunters of waterfowl
along the Eastern Shore of Maryland
are sold and exhibited as art. In the
small town of Cherokee, N.C., an outdoor drama called “Unto These Hills”
recounts the triumphs and tragedies of
the Eastern Band of Cherokee, who
have lived in the mountains of North
Carolina for hundreds of years.
Besides preserving its heritage,
a community has to give tourists something that feels real and relevant. “The
consumer expects [authenticity] now
and is more demanding,” says Randy
Cohen, vice president of research and
information at Americans for the Arts.
“As Americans travel around the country, we want to learn about our history
and understand where we came from,
the good and the bad.”
RF

READINGS
Dickinson, Rachael. “Heritage Tourism is Hot.” American
Demographics, September 1996, pp. 13-14.
“New Directions in Heritage Tourism.” Special issue of
Forum Journal, Summer 1999, vol. 13, no. 4.
Nicholls, Sarah, Christine Vogt, and Soo Hyun Jun.
“Heeding the Call for Heritage Tourism.” Parks & Recreation
Magazine, September 2004, pp. 36-49.

Patkose, Margaret, Andrea M. Stokes, and Suzanne D. Cook.
The Historic/Cultural Traveler: 2003 Edition. Washington, D.C.:
Travel Industry Association of America, 2003.
Timothy, Dallen J., and Stephen W. Boyd. Heritage Tourism.
New York: Prentice Hall, 2003.

spring 2006 • Region Focus

45

BOOKREVIEW
License to Bill
LICENSING OCCUPATIONS: ENSURING QUALITY OR
RESTRICTING COMPETITION?
BY MORRIS M. KLEINER
KALAMAZOO, MICH.: W.E. UPJOHN INSTITUTE FOR EMPLOYMENT
RESEARCH, 2006, 193 PAGES
REVIEWED BY BETTY JOYCE NASH

W

ho knew some states require a license to raise
frogs? Boxers, auctioneers, and hair braiders
along with doctors, lawyers, and dentists, of
course, all need licenses. So do wrestlers. California licenses
178 occupations, while Kansas regulates only 47. Most Fifth
District states fall somewhere in between: from South
Carolina, which licenses 55 occupations, to Maryland, which
licenses 89.
Morris M. Kleiner, a labor economist at the University of
Minnesota, has spent much of his career studying licensing. In
his new book Licensing Occupations: Ensuring Quality or
Restricting Competition?, he covers a lot of ground, from the
earliest codified laws, the Babylonian Code of Hammurabi, to
present trends.
Today, licensing is one of the fastest-growing labor
market institutions in the United States. It hasn’t exactly
resulted in what consumers might expect. Economists
have found that occupational licensing increases prices
in most regulated services by driving up wages from
4 percent to 12 percent. Meanwhile, it’s unclear whether
quality improves enough so that
consumers are better off.
In an effort to provide a full account
of licensing’s costs and benefits,
Kleiner has gathered history and
research, adding new analysis, tables,
and figures that document and update
licensing issues. He discusses at length
the economic theory that underpins
licensing and includes state trends as
well as how employment rules abroad
affect the labor market and wages in
the European Union. The ultimate
question is whether the public is better
off when occupations are regulated or
whether consumers just end up paying
more without much benefit.

More Licensing
but Less Research
Although the number of people in
licensed occupations has grown to

46

Region Focus • spring 2006

about 20 percent of the work force from some
4.5 percent in the 1950s, studies of licensing lately have
been few and far between. How come?
On the recent dearth of research, Kleiner has this to
say: “Perhaps this lack of recent analysis is because the
topic lies at the intersection of labor economics, law,
and industrial organization and thus does not fit easily
within one of the subfields of the social sciences as they
have evolved.”
Kleiner explains the nuts and bolts of licensing.
Usually it’s the members of a profession themselves
who lobby for licensing, reasoning that it’s necessary to
stipulate certain training and benchmarks of quality,
especially as technology has grown, requiring
higher-skilled labor. But there’s another, less-publicized
motivation: “The expectation from economic theory is
that licensing may create windfall gains or rents, and
that these prospective gains in income provide an
important impetus for licensure,” Kleiner writes. In
other words, licensing may be more beneficial to those
licensed than to consumers.
For high-income professions, like dentists and
lawyers, regulation results in a kind of monopoly
power because entry is limited in a variety of ways.
(Licensing of this sort is not to be confused with the
academic training that lawyers and doctors, among
others, undergo — though, in some cases, obtaining
such formal training may be a
licensing requirement.) Professional
associations justify resulting
higher prices by explaining that
expert supervisors and standardized practices bring about higher
quality service on average.
(Standard practices can also stifle
innovation,
though,
Kleiner
points out.)

Licensing and
Consumer Welfare
Most of us assume licensing
provides assurances of quality
and safety in the case of medical
professionals or home builders or
furnace fixers. But when is the
last time you checked a state
regulatory Web site to make sure
your doctor still had a license?
Perhaps we depend too much on

those pieces of paper on the wall. But most people
would like for their furnace repairman to know
something about boilers before hiring him. So it stands
to reason that licensing would protect consumers,
right?
Not necessarily. The impact of licensing on
quality is unclear. Kleiner and others who have studied
the issue say licensing shows “no effects on average
consumer well-being relative to
little or no regulation.” What is
clear, though, is that increased
prices are associated with highly
regulated services. Even when
entry restrictions raise the
quality of practitioners, fewer
people may use their services as
the price and wait time go up. So
some consumers are made worse
off. The wealthy, and in the case
of health care, those with
generous insurance plans may be
exceptions because they can
afford to pay the higher prices.
As a result, licensing can raise significant distributional
concerns.
Could lack of regulation contribute to catastrophe,
such as disease or building collapse? “Although there are
many anecdotes that document worker negligence or
incompetence that have led to major serious injury or
even deaths, there is little evidence that licensing would
have eliminated serious tragedies in any systematic
manner,” Kleiner writes.
Economists point out that licensing and
restrictive rules limit supply and mobility across state
lines in some professions. And everyone knows what
limited supply can do: curtail consumer choices,
especially if prices and wages have become unaffordable
for some people, which sometimes happens with the
poor and dental care, for example. For professions with
higher education and earnings (dentists, lawyers,
doctors, and so forth), Kleiner says, licensing “appears
to have large effects through either limiting entry or
restricting movement into the state. However, for
other occupations such as teachers, nurses, and
cosmetologists, the impact of licensing on earnings
is murky, with some studies finding small effects and
others finding none.”
Licensing keeps out the competition, according
to the “capture theory.” If demand for a service is
relatively inelastic, then higher prices will lead to
higher income for the licensed professionals. That
means the benefits are larger for dentists than for
hairdressers, for example, because there are fewer
substitutes for dentists than hairdressers.

Alternatives
Occupational licensing is often justified on the grounds
that “information asymmetries” create market failures. In
short, the consumer of a service may not be able to
accurately judge the claims of a provider. Consider a
person going to a mechanic to get his car fixed. Does the
car really need all the repairs that the mechanic suggests?
Or is he taking advantage of the consumer’s relative lack
of knowledge? And, assuming that
all the repairs are necessary, is the
mechanic capable of actually doing
the job? These are tough questions
for the average consumer to
answer. Proponents of licensing
argue that a third party is often
necessary to set basic standards for
providers so that consumers can
be reasonably assured that they are
going to get an accurate diagnosis
and good service.
But, as has been discussed,
licensing may be a costly way to
achieve this goal. Kleiner suggests
that it might be possible, instead, to use certification, a
weaker form of regulation. Certification documents that
providers have met specific standards yet does not carry
licensing’s restrictions on competition imposed through
barriers to entry and mobility. Physicians, for example,
can become “board certified” in specialties. Some 200
occupations have certification. Registration is another
possibility, one that is even less restrictive. People file
information and qualifications with an agency before
practicing, which could also include posting a bond.
Kleiner compares licensing with certification in
two states. Minnesota certifies physical therapists,
respiratory care providers, and physicians’ assistants,
while Wisconsin licenses those professions. Evidence
showed that licensing compared to certification in those
professions “provides no obvious benefits to consumers as
measured by complaints to regulatory boards.”
But to change the current system, occupational
licensing needs more visibility. As Kleiner points out in
the book’s final paragraph, “policies passed by legislatures
on occupational licensing are back-burner issues.”
Kleiner’s book is a thorough examination of a topic
that’s not as exciting as interest rates or the stock market.
But quieter economic trends need airing too. In simple
prose that only occasionally strays into economic jargon,
Kleiner makes a strong case against excessive licensing.
Such rules can keep people out of occupations,
raising prices and distorting labor markets. How
much longer will we allow professionals, rather than
consumers, decide who can provide the most
competent service?
RF

Kleiner and others say
licensing shows “no
effects on average
consumer well-being
relative to little
or no regulation.”

spring 2006 • Region Focus

47

DISTRICT ECONOMIC OVERVIEW
BY RO B E RT L AC Y

T

he Fifth District economy
expanded at a moderate
pace in the fourth quarter
of 2005. Services and retail firms
reported fairly strong gains in
revenues, and manufacturers said
that new orders and shipments
moved higher during the quarter.
Personal income and employment
rose as well, and the District’s
unemployment rate edged lower.
Although the manufacturing and real
estate sectors slowed toward the end
of the quarter, the District’s economic
expansion remained firmly intact
heading into 2006.

Services Sector Growth
Continues
Retailers and services businesses in the
District reported relatively strong
sales gains in the fourth quarter. Retail
sales during the holiday season turned
out better than expected, and the
increasing popularity of gift cards
provided considerable retail sales
momentum into January 2006. Bigticket sales in the fourth quarter were
spotty at times though; automobile
and light truck sales were particularly
variable, surging when dealers offered
price discounts, only to tail off when
incentive programs ended.
In contrast to the strength of

The Fifth District’s
economic expansion
remained fully intact
heading into 2006.
activity in most services sectors, residential real estate activity slowed in the
fourth quarter. Real estate agents tell
us that homes for sale tended to stay
on the market longer and that sales
slumped in many areas. Home prices,
however, continued to rise at a steep
pace in much of the region. According
to HUD’s Office of Federal Housing
Enterprise Oversight, home prices in
the District of Columbia, Maryland,
and Virginia were 20 percent to 22
percent higher than a year earlier.

Manufacturing Output Rises
District manufacturers said shipments,
new orders, and capacity utilization
grew at a solid pace in October and
November. December activity, however, was somewhat sluggish. Electronics
manufacturers and producers of rubber and plastics products tended to
report the best gains during the quarter. “We are still very busy; new orders

Economic Indicators
4th Qtr.
2005
Nonfarm Employment (000)
Fifth District
U.S.
Real Personal Income ($bil)
Fifth District
U.S.
Building Permits (000)
Fifth District
U.S.
Unemployment Rate (%)
Fifth District
U.S.

48

4th Qtr.
2004

Percent Change
(Year Ago)

13,513
134,161

13,289
132,244

1.7
1.4

897.9
9,318.2

879.5
9,163.6

2.1
1.7

56.5
480.0

53.4
471.7

5.9
1.8

4.8%
5.0%

4.9%
5.4%

Region Focus • spring 2006

and backlog are up,” according to
a Fifth District plastics manufacturer in October. Declining textile
production contributed to the
slower manufacturing environment
in December — a North Carolina
textile manufacturer cautioned
“domestic manufacturing is still
shaky at best” and expected a
“flood” of Chinese imports to
present significant challenges for
U.S. manufacturers in 2006.
The District’s manufacturing sector received a boost in the fourth
quarter with the opening of Dell’s
computer manufacturing facility in
Winston-Salem, N.C., in October.
The 750,000 square-foot facility is the
company’s largest in the United States.
MeadWestvaco’s announcement that
it would relocate its headquarters
from Stamford, Conn., to Richmond,
Va., creating 400 executive and
administrative jobs in the area, was
also welcome news. MeadWestvaco
makes packaging, coated and
specialty papers, and consumer and
office products.

Labor Markets Healthy
Fifth District payroll employment in
the fourth quarter was 1.7 percent
higher than a year earlier, a bit
stronger than the 1.4 percent growth
rate nationwide. Across District
states, employment gains tended to be
centered in professional and business
services and in construction industries, contrasted by a general decline
in manufacturing employment.
The District’s unemployment rate
edged down to 4.8 percent in the
fourth quarter. Among District states,
Virginia and Maryland continued
to record the lowest unemployment
rates, in part because of the vibrant
labor market in the Washington,
D.C., metropolitan area. The unemployment rate in that area dropped
to 3.1 percent, the lowest level in
four years.

Nonfarm Employment

Unemployment Rate

Real Personal Income

Change From Prior Year

First Quarter 1992 - Fourth Quarter 2005

Change From Prior Year

First Quarter 1992 - Fourth Quarter 2005

First Quarter 1992 - Fourth Quarter 2005

4%

8%

8%

7%

6%

7%

3%

5%

2%
6%

4%

1%

3%

5%
0

2%
1%

4%

-1%

0%
-2%
93

96

99

02

05

3%

93

96

99

02

05

Fifth District

-1%

93

96

99

02

05

United States

Nonfarm Employment
Metropolitan Areas

Unemployment Rate
Metropolitan Areas

Building Permits

Change From Prior Year

First Quarter 1992 - Fourth Quarter 2005

First Quarter 1994 - Fourth Quarter 2005

Change From Prior Year

First Quarter 1992 - Fourth Quarter 2005

8%
7%
6%
5%
4%
3%
2%
1%
0
-1%
-2%
-3%

30%

9%
8%

20%
7%
10%

6%
5%

0%

4%
-10%

3%

-20%

2%
93

96
Charlotte

99

02

Baltimore

93

05
Washington

96

99

Charlotte

FRB—Richmond
Services Revenues Index

02

95

05

Baltimore

FRB—Richmond
Manufacturing Composite Index

First Quarter 1994 - Fourth Quarter 2005

97

99

01

Fifth District

Washington

03

House Prices
Change From Prior Year

First Quarter 1994 - Fourth Quarter 2005

First Quarter 2000 - Fourth Quarter 2005

40

40
30
20

10

-10

-20

-20

06

0

-10

05

10

0

VA
WV
DC

25%

20

MD
NC
SC

30%

30

05

United States

20%
15%

-30

10%
5%

-30
95

97

99

01

03

05

95

97

99

01

03

05

0%

01

02

03

04

NOTES:

SOURCES:

1) FRB-Richmond survey indexes are diffusion indexes representing the percentage of responding firms
reporting increase minus the percentage reporting decrease.
The manufacturing composite index is a weighted average of the shipments, new orders, and
employment indexes.
2) Metropolitan area data, building permits, and house prices are not seasonally adjusted (nsa); all other
series are seasonally adjusted.

Income: Bureau of Economic Analysis/Haver Analytics
Unemployment rate: LAUS Program, Bureau of Labor Statistics, U.S. Department of Labor,
http://stats.bls.gov.
Employment: CES Survey, Bureau of Labor Statistics, U.S. Department of Labor, http://stats.bls.gov.
Building permits: U.S. Census Bureau, http://www.census.gov.
House prices: Office of Federal Housing Enterprise Oversight, http://www.ofheo.gov.

spring 2006 • Region Focus

49

STATE ECONOMIC CONDITIONS
BY A N D R E A H O L M E S

District of Columbia
s 2005 drew to a close, District of Columbia business
and household financial conditions showed solid
expansion. Furthermore, real estate activity remained
steadfast, despite continued price acceleration amid
evidence of moderation nationally.
Businesses in the District of Columbia continued to
expand payrolls in the fourth quarter. Job numbers
rose 3.1 percent, reversing two quarters of job losses and
marking the strongest quarterly job growth since late 2001.
For all of 2005, the leisure and hospitality sector led payroll
growth, with total employment rising 7.3 percent. The

A

quarter, roughly 2,000 more than a quarter earlier. The
continued strength of the housing market was apparent in
readings on future construction as well, as fourth-quarter
permit applications outnumbered third-quarter levels.
News from the broadly defined Washington, D.C., MSA
was even more upbeat than in the District of Columbia
proper. Fourth-quarter payrolls expanded 4.4 percent, and
the unemployment rate dropped 0.3 percentage point to
3.1 percent. Real estate markets beyond the city borders
were less robust by comparison, however, with fourthquarter new construction applications 13 percent below
year-earlier levels.

U Maryland
aryland’s economic prospects continued to brighten
in late 2005. Businesses in the state boosted payrolls
1.0 percent in the fourth quarter, marking three straight
years of positive job growth. For the year as a whole,
employment growth came almost entirely from serviceproviding establishments. The exception to this rule was the
construction sector, where steady demand for new housing
in 2005 fueled job growth.
Adding to the upbeat tone at businesses, venture capitalists
infused $155 million into Maryland in the fourth quarter, more
than matching the third-quarter inflow and registering the
largest net gain in exactly one year. Significantly,
seed stage companies represented 40 percent of the businesses
receiving funding, suggesting a firming in investor confidence.

M

ANNUAL PERCENT CHANGE, Q4:04 TO Q4:05

increased work force proved advantageous with the
National Cherry Blossom Festival in early 2006, as hotel
occupancy in the area is typically boosted by 12 percent.
Other recent economic indicators also pointed to an
upturn at businesses. Venture capital inflows into District of
Columbia firms totaled $13 million in the fourth quarter, up
from a relatively shallow inflow of $2 million a quarter earlier.
Household financial conditions also brightened. The
District of Columbia’s unemployment rate fell
0.3 percentage point to 6.0 percent in the fourth quarter —
the lowest rate since early 2001. Adding to the positive tone,
the number of unemployment benefits claimants decreased
in the fourth quarter, reversing a slight uptick the quarter
before. And personal income advanced 0.9 percent at year’s
end, bringing total growth for 2005 to 2.8 percent, the
second-strongest annual growth rate districtwide.
Turning to the District of Columbia’s real estate market,
home prices advanced briskly in the fourth quarter, with
prices rising 22 percent over a year earlier. Sharply higher
prices, however, appear to have not yet deterred buyers.
More than 12,500 homes were sold during the fourth
50

Region Focus • spring 2006

ANNUAL PERCENT CHANGE, Q4:04 TO Q4:05

Financial conditions at Maryland households also
brightened. In line with stronger payroll growth, the jobless
rate fell 0.2 percentage point to 4.0 percent, nearly a full
percentage point below the national rate. Additionally,

initial jobless claims were 4.0 percent lower than the
previous year, marking two straight years of improvement in
what is another indication of labor market improvement.
Fourth-quarter personal income measures were also generally
on track — Maryland incomes rose 0.6 percent in the last
quarter of the year.
By most measures, Maryland residential real estate
activity decelerated in late 2005. Mirroring activity in most
other District states, fourth-quarter existing homes sales
declined compared to both the previous quarter and a year
earlier. New building permit authorizations also dwindled in
late 2005, coming in 9.7 percent below year-earlier levels.
The pace of quarterly home price appreciation in Maryland,
while still historically high at 19.2 percent, also eased
somewhat in the fourth quarter, influenced perhaps by
diminished demand.
The Baltimore metro area economy generally matched
activity recorded statewide. Payrolls rose by a solid
5.7 percent in the fourth quarter, and the jobless rate
plummeted 0.5 percentage point to 4.1 percent. New
construction activity in Baltimore, however, outperformed
the state as a whole — building permits jumped at a
4.7 percent annual rate in the fourth quarter.

h

North Carolina

eading into 2006, economic momentum was more in
evidence in North Carolina than a year earlier.
Businesses in the state continued to boost payrolls in the
fourth quarter, causing nonfarm employment to increase
2.0 percent. Looking back over the year, job numbers
expanded the most at construction firms and education
and health services establishments. By comparison,
weakness remained firmly entrenched in the goodsproducing sectors — natural resources and mining payrolls
were flat for the year, and manufacturers trimmed jobs by
1.9 percent.
Year-end numbers on venture capital investment were
also more encouraging. Fourth-quarter inflows totaled
$91 million, with the majority of the capital slotted for the
expansion of existing firms. Although the fourth-quarter
reading marked the smallest quarterly injection in all of
2005, investment for the year totaled $508 million, the
largest annual inflow since 2002.
Outside of business activity, household financial
conditions remained steady. With the fourth quarter’s solid
payroll employment gain, the unemployment rate inched
lower to 5.2 percent, even though more than 22,000 new
persons entered the labor force over the same time period.
The solid pace of job growth aided household finances as
personal income expanded at a 0.9 percent annual rate in the
fourth quarter. On a less positive note, however, the number
of state residents applying for unemployment benefits for
the first time rose by 14.6 percent in the fourth quarter,
following two quarters of improvement.

H

ANNUAL PERCENT CHANGE, Q4:04 TO Q4:05

Indicators of North Carolina’s housing markets sent
mixed signals in the fourth quarter. Existing home sales
declined 21.6 percent in the last quarter of the year,
suggesting a considerable loss of market momentum.
Indicators of future construction also cooled somewhat —
new building permit authorizations edged lower in the
fourth quarter, following a shallower decline a quarter
earlier. So far, the slight downshifting in demand has
yet to filter through to home prices, however. According
to the latest data, the average home price moved
10.4 percent higher in the fourth quarter — the largest
quarterly appreciation rate in the history of the series.
North Carolina’s metro areas also saw steady job
growth in late 2005. In the fourth quarter, Charlotte and
Raleigh-Durham posted payroll employment gains of
8.3 percent and 6.7 percent, respectively. Likewise, both
metros saw a decline in their jobless rates. In real
estate, new construction activity in Charlotte and
Raleigh-Durham mirrored that of the state — both posted
declines in new building permit authorizations from the
third quarter.

o South Carolina
A

lthough much improved from a year earlier, economic
activity in South Carolina advanced at a slower pace in
2005 than in other District jurisdictions. In the fourth
quarter, South Carolina added 13,667 jobs, nearly three times
the third-quarter gain. As shown in the chart, the professional
and business services sector displayed the most strength in
2005 — payrolls expanded by 5.4 percent. In contrast,
weakness persisted in the goods-producing sectors, with manufacturing employment and natural resources and mining
payrolls contracting 3.2 percent and 4.7 percent, respectively.
Business activity was a bit more subdued at less established
firms as well. For instance, although venture capitalists injected
$1.2 million dollars into a startup semiconductor firm in the
fourth quarter, total 2005 venture capital funding amounted to
only $5 million, the smallest annual inflow in over a decade.

spring 2006 • Region Focus

51

Among South Carolina households, the latest data
indicated continued optimism regarding the strength of the
labor market, as the number of job seekers increased by
nearly 18,700 in the fourth quarter. This sizable increase in
the labor force, however, pushed the unemployment rate up
0.4 percentage point to 7.2 percent, the highest jobless rate
in more than a decade. On a brighter note though, fourthquarter personal income growth was the strongest
districtwide, posting a 1.1 percent gain from a quarter earlier.
As in other Fifth District states, the median price for a
South Carolina home continued to move higher in 2005,
rising by 8.1 percent in the fourth quarter alone. Evidence
suggests that demand continues to push prices higher —
fourth-quarter existing home sales were 15.6 percent above
the year-ago level, marking the strongest growth rate
districtwide. Prospects for new construction also remained
on track — new building permits filed in the fourth quarter
were significantly higher over the year.
Economic activity in South Carolina’s metro areas
mirrored that of the state. Payroll employment expanded at

ANNUAL PERCENT CHANGE, Q4:04 TO Q4:05

a 10.2 percent rate in Columbia while Charleston
experienced a smaller pickup of 3.3 percent. Also, both
metros recorded similarly strong gains in their labor forces,
resulting in somewhat higher jobless rates in the fourth
quarter. New construction also slowed in both metropolises
in the fourth quarter, but as seen statewide, remained well
above year-ago levels.

u Virginia
ost barometers of Virginia’s economic health were
positive in late 2005, with the state posting the
lowest fourth-quarter unemployment rate districtwide.
Payrolls increased by 2.0 percent, or 18,600 jobs, in the

M

52

Region Focus • spring 2006

ANNUAL PERCENT CHANGE, Q4:04 TO Q4:05

last quarter of the year, marking over two consecutive
years of positive job growth. Among major industries,
construction establishments created the most new jobs in
2005 as demand for new housing remained generally
robust in Virginia’s major metro areas in the early part of
the year.
Backed by a stable labor market, household conditions
also remained on course in the fourth quarter. The jobless
rate dropped 0.2 percentage point to 3.4 percent, despite
an inflow of 12,500 job seekers into the labor market. And
although the number of first-time claimants for
unemployment insurance increased by 7.1 percent, the
level remained below that of a year ago. Personal income
also continued to expand in the fourth quarter. Compared
to a year ago, incomes stood 2.9 percent higher, the
strongest annual increase recorded among District states.
Business activity also firmed across the state, despite
venture capital investment into Virginia businesses edging
lower in the fourth quarter. Capital inflows totaled $56
million, roughly one-third less than the amount recorded
in the third quarter. On the upside, however, annual
investment totaled $402 million, marking the largest
annual infusion in three years.
Economic activity in Virginia’s metro areas also
continued to look up, with businesses in the Norfolk and
Richmond metro areas boosting payrolls by 2.0 percent
and 5.8 percent, respectively. In line with strengthening
labor markets, the jobless rate also posted healthy declines
in both areas.
On the real estate front, the pace of home price
appreciation in Virginia decelerated in the later part of the
year, yet still remained historically high — the state recorded
a 15.5 percent jump in the fourth quarter alone. The
moderation in prices is likely in response to the recent
slowdown in demand growth, as illustrated by the
11.3 percent decline in fourth-quarter home sales. New

construction also advanced at a more moderate pace – the
number of building permits issued in the fourth quarter
were below those recorded a quarter earlier.

w

West Virginia

est Virginia’s economy expanded strongly through
the end of 2005, with the most recent data showing a
steady improvement in both household and business
financial conditions. Real estate markets made solid
headway over the year, though activity moderated somewhat
at the end of the year.
Fourth-quarter
payroll
employment
advanced
1.8 percent in West Virginia, more than double the job
growth in the third quarter. Also positive, employment
growth for all of 2005 was equally robust – the state added
jobs at a slightly quicker pace than in 2004. By sector,
construction and natural resources and mining payrolls
posted the strongest growth in 2005. The latter was most
likely due to rising coal prices, which have spurred West
Virginia’s mining establishments to boost production in
recent years. In 2005, state coal production totaled
158.6 million tons, up 3.3 percent from a year earlier.
Other indicators of business conditions were also
positive. Venture capital investment into West Virginia
businesses amounted to $1.6 million in the fourth quarter,
bringing total 2005 inflows to $10.6 million, double the
capital investment recorded in 2004.
The bounceback among households, which was slower
to take hold in West Virginia than in other District states,
also appears to have firmed. The state’s fourth-quarter
jobless rate fell 0.3 percentage point to 4.9 percent,
reflecting recent labor market health, and personal income
rose 0.9 percent during the same period, reversing the

W

ANNUAL PERCENT CHANGE, Q4:04 TO Q4:05

slight contraction recorded in the third quarter.
Economic activity was also upbeat in the Charleston
metro area in late 2005. Payrolls in that area continued to
climb, rising 1.2 percent in the fourth quarter. In line with
the improvement in hiring activity, Charleston’s jobless rate
fell 0.8 percentage point to 4.2 percent, the lowest rate in
the history of the data series.
Despite the comparatively recent firming of household
financials, West Virginia’s real estate market has been
steadily advancing for a number of years. The most recent
data, however, has begun to suggest moderation. Sales of
existing housing units moved 10.9 percent lower in the
fourth quarter, following a smaller decline of 3.7 percent a
quarter earlier. The slowdown in home sales dampened
home price acceleration — the average price of a West
Virginia home continued to gain value through the end of
2005, posting a fourth-quarter increase of 9.7 percent, but
the pace of growth slowed for the second straight quarter.

Every quarter this magazine publishes changes in personal
income nationwide and in the Fifth District. Personal
income is a broad measure that encompasses wages and
salary, dividends, income to proprietors, and rental income
to landlords, among other items. As a general reading of
how well the country is doing, personal income isn’t bad.
But to learn how much cash Americans really have in
their pockets, it’s necessary to look at a different measure
— disposable personal income. This measure accounts for,
among other things, the tax bite on U.S. paychecks. That’s
why, in looking at a historical trend line, you sometimes see
gaps between changes in personal income and disposable
personal income. The accompanying graphic shows one
such gap, which is generally attributed to tax cuts that
became effective between 2001 and 2003. Even as growth in

PERCENT

Behind the Numbers: The Gap

personal income declined, disposable income maintained
its growth rate.
— DOUG CAMPBELL

spring 2006 • Region Focus

53

State Data, Q4:05
DC

MD

NC

SC

VA

WV

Nonfarm Employment (000)
Q/Q Percent Change
Y/Y Percent Change

685.3
3.1
1.1

2,567.1
1.0
1.4

3,937.3
2.0
1.7

1,871.9
3.0
1.2

3,700.5
2.0
2.3

751.1
1.8
1.5

Manufacturing Employment (000)
Q/Q Percent Change
Y/Y Percent Change

2.0
-12.3
-15.5

139.4
-2.4
-2.2

564.2
-0.5
-1.9

258.3
-2.8
-3.2

295.1
-0.8
-1.0

61.4
0.7
-1.9

Professional/Business Services Employment (000) 148.5
Q/Q Percent Change
0.6
Y/Y Percent Change
1.9

387.4
1.9
3.3

449.5
3.8
3.2

211.2
9.4
5.4

619.3
6.2
4.7

59.3
3.7
1.0

Government Employment (000)
Q/Q Percent Change
Y/Y Percent Change

232.4
-1.9
-0.4

467.0
0.7
0.7

668.5
3.8
1.8

332.2
4.0
2.3

665.1
0.2
1.4

143.7
0.1
0.0

Civilian Labor Force (000)
Q/Q Percent Change
Y/Y Percent Change

293.2
-3.2
-1.4

2,954.8
1.1
1.9

4,369.6
2.1
2.3

2,104.0
3.6
2.3

3,960.8
1.3
2.0

804.5
0.1
1.5

Unemployment Rate (%)
Q3:05
Q4:04

6.0
6.3
7.4

4.0
4.2
4.3

5.2
5.4
5.3

7.2
6.8
6.9

3.4
3.6
3.6

4.9
5.2
5.1

Personal Income ($bil)
Q/Q Percent Change
Y/Y Percent Change

27.5
0.9
2.8

211.9
0.6
1.8

240.1
0.9
1.5

109.3
1.1
1.8

264.3
0.9
2.9

44.8
0.9
1.9

636
14,812.2
83.3

6,512
-46.9
-9.7

22,441
-42.7
10.1

12,558
-22.0
17.6

13,295
-43.0
-2.7

1,057
-77.2
-2.3

606.2
24.0
22.0

492.6
19.2
21.5

310.2
10.4
8.1

295.0
8.1
9.2

446.2
15.5
19.7

224.3
9.7
11.9

12.5
23.8
-21.9

128.2
-8.2
-11.5

198.8
-21.6
13.4

120.5
-0.1
15.6

164.0
-11.3
-16.3

35.1
-10.9
-10.9

Building Permits
Q/Q Percent Change
Y/Y Percent Change
House Price Index (1980=100)
Q/Q Percent Change
Y/Y Percent Change
Sales of Existing Housing Units (000)
Q/Q Percent Change
Y/Y Percent Change

NOTES:
Nonfarm Employment, thousands of jobs, seasonally adjusted (SA) Bureau of Labor Statistics (BLS)/Haver Analytics, Manufacturing, thousands of jobs, SA; BLS/Haver Analytics, Professional/Business Services, thousands of jobs, SA; BLS/Haver Analytics,
Government, thousands of jobs, SA; BLS/Haver Analytics, Civilian Labor Force, thousands of persons, SA; BLS/Haver Analytics, Unemployment Rate, percent, SA; BLS/Haver Analytics, Personal Income, billions of chained 2000$, Bureau of Economic
Analysis/Haver Analytics, Building Permits, number of permits, NSA; U.S. Census Bureau/Haver Analytics, House Price Index, 1980=100, NSA, Office of Federal Housing Enterprise Oversight/Haver Analytics, Sales of Existing Housing Units, thousands of units,
SA; National Association of Realtors®

54

Region Focus • spring 2006

Metropolitan Area Data, Q4:05
Washington, DC MSA
Nonfarm Employment (000)
Q/Q Percent Change
Y/Y Percent Change
Unemployment Rate (%)
Q3:05
Q4:04
Building Permits
Q/Q Percent Change
Y/Y Percent Change

Baltimore, MD MSA

Charlotte, NC MSA

2,964.2
4.4
2.1

1,306.1
5.7
2.0

806.8
8.3
2.1

3.1
3.4
3.6

4.1
4.6
4.4

4.9
5.3
5.2

6,843
-41.4
-13.0

2,519
4.7
-12.7

5,268
-44.2
13.5

Raleigh, NC MSA
Nonfarm Employment (000)
Q/Q Percent Change
Y/Y Percent Change
Unemployment Rate (%)
Q3:05
Q4:04
Building Permits
Q/Q Percent Change
Y/Y Percent Change

Unemployment Rate (%)
Q3:05
Q4:04
Building Permits
Q/Q Percent Change
Y/Y Percent Change

Columbia, SC MSA

273.6
6.7
1.5

278.0
3.3
0.7

352.6
10.2
0.6

4.1
4.6
4.2

5.3
5.2
5.3

5.8
5.6
5.8

905
-66.1
0.2

2,336
-36.6
13.5

1,694
-29.1
2.7

Norfolk, VA MSA
Nonfarm Employment (000)
Q/Q Percent Change
Y/Y Percent Change

Charleston, SC MSA

Richmond, VA MSA

Charleston, WV MSA

771.3
2.0
1.8

624.2
5.8
1.8

149.8
1.2
0.4

3.8
4.2
4.0

3.4
3.8
3.6

4.2
5.0
4.5

2,719
23.0
3.7

2,115
-60.4
-0.6

75
-30.0
10.3

For more information, contact Andrea Holland at 804-697-8273 or e-mail Andrea.Holland@rich.frb.org.

spring 2006 • Region Focus

55

OPINION
The Economist as Policy Adviser
BY A A RO N ST E E L M A N

should not forget those examples where good economics
conomics has made substantial progress since Adam
has been willfully ignored. Policymakers, on the whole, are
Smith published The Wealth of Nations in 1776. Our
charged with acting in the national interest. But each
understanding of how the economy works has
policymaker has an incentive to act in his own narrow
improved greatly, as have the tools used to analyze it.
interest. Often this results in the advocacy of policies that
But has this technical progress led to better policymakwill benefit his home district or state — even if they will be
ing? It depends on your time horizon. Economic policy, on
costly to the general population.
the whole, has not been on a steady ascent. There have been
Economists should keep that in mind when they are asked
significant zigs and zags along the way. The United States
to assume the role of adviser. The tools of modern economics
started off with a largely free trade program, but at times
can sometimes help reveal cases that might be viewed as
adopted protectionist measures that harmed material
exceptions to the rule. For instance, in theory there is such a
progress and our relations with foreign allies. Currently, the
thing as an “optimal tariff,” which can improve a nation’s
nation’s trade policy is relatively liberal, though there are
welfare. However, in practice, efforts to adopt such a tariff
certainly areas where improvement could be made.
could lend cover to policies that are
The same is true with freedom of
blatantly protectionist. Similarly, one
contract. Between the end of the
It may be possible to imagine can model cases where the use of
Civil War and the New Deal few
eminent domain for narrow
barriers existed. During the 1930s,
situations where deviating
commercial purposes, such as the
however, several measures were
from a well-considered
building of a shopping mall where
adopted that limited the ability
housing used to stand, could be
of employers and employees to
policy rule would be welfarebeneficial. But one ought to
contract freely, from minimum wage
enhancing, but such action
expect those cases to be rare. More
laws to maximum hour statutes.
important, one should fear that the
Many of those policies remain on the
would still be unwise.
power to seize property will be used
books, though other regulations that
more frequently than the model
were subsequently adopted — such
suggests — in other words, abused.
as wage ceilings — have thankfully been lifted.
This is not to say that economists should censor
Monetary policy also has gone through its period of ups
themselves. Quite the opposite. They should go wherever
and downs since the founding of the Federal Reserve
their research takes them.
System in 1913. Mishandling of the money supply was
When it comes to the implementation of public policy,
arguably the principal cause of the Great Depression.
though, they should take a more cautious or prudential
During the 1950s and 1960s, under the direction of William
approach. As economist James Buchanan of George Mason
McChesney Martin, Jr., the Fed adopted sounder policies,
University argued in his 1986 Nobel Prize lecture,
only to see inflation become both high and variable during
“Economists should cease proffering policy advice as if they
the 1970s. It has been a long and arduous climb back to
were employed by a benevolent despot, and they should
price stability since Paul Volcker assumed the chairmanship
look to the structure within which political decisions
of the Fed in 1979 — and the fight against inflation will
are made.”
require continued vigilance.
One way for economists to look at this is through the
These are but three examples. One could give many
familiar lens of rules versus discretion. It may be possible to
more. The point is: The record is mixed. In some cases, ecoimagine situations where deviating from a well-considered
nomic principles with a long pedigree — such as open trade
policy rule would be welfare-enhancing, but such action
policies improve well-being — have been abandoned. In
would still be unwise. The goal should be to move from a
other cases, as the economics profession has made advances
system of ad hoc decisionmaking toward one in which
— for instance, as the state of monetary economics has
sound economic principles are applied across a broad set of
improved — so have policymakers. The transmission of
policy questions, something akin to what Buchanan and his
ideas, then, from economists to the public and its political
colleagues call constitutional political economy. This might
representatives is by no means perfect.
mean foregoing some marginal improvements, but it’s also
What does this portend for future economic research?
likely to mean fewer big mistakes. I think most people
First, we should not discount those examples where good
would agree that’s a trade-off worth making.
RF
economics has helped inform good policy. But we also

E

56

Region Focus • spring 2006

NEXTISSUE
Workplace Safety

Interview

From construction to coal mining, work can be dangerous. Both
market forces and government regulation play a role in keeping
workplaces safe, but what is the optimal mix of private and
public involvement? In the wake of recent mining accidents in
West Virginia, policymakers are rethinking their approaches to
protecting employees from on-the-job hazards.

We talk with Guillermo Calvo of the
University of Maryland and the InterAmerican Development Bank about
monetary and international economics.

The Economic Impact of Immigration
In the past decade few states have experienced an influx of
immigrants, both legal and illegal, as large as North Carolina. In
general, studies have shown that immigrants are good for the
economy, and North Carolina’s economic growth is a case in
point. Still, there is growing pressure to tighten the flow of
newcomers to the United States. New economic research tries
to pin down the net costs and benefits of immigration.

Federal Reserve
How former Federal Reserve Chairman Paul
Volcker tamed inflation and changed
monetary policymaking as we know it.

Research Spotlight
The yield curve — the relationship between
interest rates on long-term and short-term
U.S. government bonds — has been flirting
with inversion. Is this as dangerous as some
people believe?

The Rebuilding
Grundy, Va., has been flooded nine times since 1929. How to
floodproof a business district that’s smack-dab on a river?
One approach is to literally move the town. This kind of
reconstructive surgery costs a bundle, but some argue it could
be an economic tonic.

Citizen Lending
Need a loan? In the Internet age, borrowers and lenders are
meeting online, bypassing banks altogether.

Visit us online:
www.richmondfed.org
• To view each issue’s articles
and web-exclusive content
• To add your name to our
mailing list
• To request an e-mail alert
of our online issue posting
The Summer 2006 issue will be
published in July.

F R B

R I C H M O N D

Economic Quarterly
T

he Richmond Fed’s
Economic Quarterly
contains original research
from the Bank’s economists and
visiting scholars. To be added to
the EQ mailing list or to view the
issues online, please visit
http://www.richmondfed.org

Spring 2005, Vol. 91 No. 2
® Steven D. Williamson, Limited Participation and the Neutrality
of Money

® Huberto M. Ennis and H. S. Malek, Bank Risk of Failure and the
Too-Big-to-Fail Policy

® Robert L. Hetzel, What Difference Would an Inflation Target Make?
® Kartik Athreya, Equilibrium Models of Personal Bankruptcy: A Survey

Summer 2005, Vol. 91 No. 3
® Aaron Steelman and John A. Weinberg, What's Driving Wage
Inequality?

® Andreas Hornstein, Per Krusell and Giovanni L. Violante,
Unemployment and V
acancy Fluctuations in the Matching Model:
Inspecting the Mechanism

® Yash P. Mehra and Jon D. Petersen, Oil Prices and Consumer
Spending

Fall 2005, Vol. 91 No. 4
® Bennett T. McCallum, Monetary Policy and the Term Structure
of Interest Rates

® Raymond E. Owens and Pierre-Daniel G. Sarte, How Well Do
Diffusion Indexes Capture Business Cycles? A Spectral Analysis

® Edward Simpson Prescott, Technological Design and Moral Hazard
®Andreas Hornstein and Alexander L. Wolman, Trend Inflation,
Firm-Specific Capital, and Sticky Prices

Winter 2006, Vol. 92 No. 1
® Robert G. King, Discretionary Policy and Multiple Equilibria
® Kartik Athreya and Hubert P. Janicki, Credit Exclusion in
Quantitative Models of Bankruptcy: Does It Matter?

® John R. Walter, The 3-6-3 Rule: An Urban Myth?
® Andrew Foerster and Leonardo Martinez, Are We Working Too Hard
or Should We Be Working Harder? A Simple Model of Career Concerns

Federal Reserve Bank
of Richmond
P.O. Box 27622
Richmond, VA 23261

Change Service Requested

PRST STD
U.S. POSTAGE
PAID
RICHMOND VA
PERMIT NO. 2

Please send address label with subscription changes or address corrections to Public Affairs or call (804) 697-8109