opportunity cost – Pertinent Observations

Travelling on a budget

It is not hard to travel on a budget. There is exactly one thing you need to do – leave your credit and debit cards behind. And that’s what I did (almost) during my recently 3-day trip to Florence. I must admit first up that I cheated – that I had in my wallet my India debit card (fairly well funded). However, thanks to currency change charges and all that, I had resolved that I would use the card only in the case of emergencies. And that I would otherwise fund my trip on the cash I was carrying on me.

Now, don’t get me wrong. Travelling on a budget doesn’t necessarily mean travelling cheap. All it means is that you define how much you are willing to spend during the trip, and then optimising the decisions during the trip so that your expenses are within that limit.

The way I went about my budget was some kind of a “bang bang control”. For the first two days of the trip, I simply ignored my budget and spent on merit. So each time I had to spend money I would evaluate the expense based on a general understanding of whether it was worth it. So four Euros for a gelato (in one of the touristy places) was deemed unreasonable. Three Euros for a larger gelato across the river was deemed okay and I spent. And so on.

In hindsight this is not a very valid strategy. The value of the money you have is a function of its scarcity, and the fact that I was travelling on a budget (carrying limited cash) meant that money on my was scarce (irrespective of the quantum of money that I had). From that perspective, the rational strategy to have followed was to do an initial budget of how much I would spend on what, and then evaluate each spending decision based on the opportunity cost vis-a-vis this particular budget.

So for example, I would have prepared an estimate of how I would spend each cent that I had initially carried. And then every time an expense came up (say three euros for a gelato) I would evaluate what I would have to give up on on my initial budget in order to eat the gelato. And then I would spend accordingly (FWIW, this is how airlines price cargo, at least if they follow the algo I did back when I was working in that sector in 2007). The problem there, however, is that calculations can be complex and you don’t want to be burdening yourself with that when you’re a tourist. Nevertheless, my strategy on the first couple of days (of spending on merit) was clearly wrong.

On the last day of the trip, I suddenly panicked since I now realised I probably didn’t have enough money to last the trip (I had set up “the game” such that if I had to use my debit card I would have “lost”). So I had to change strategy. First of all, I set aside money for the bus ride to the Florence airport and the taxi ride home from Barcelona airport (when there’s a wife waiting for you, you simply take the quickest means of transport available!).

Next, I looked at other mandatory expenses (I had decided to do a day trip to Siena that day so the bus far to go there was one of them; then I had to eat), and set aside money for those. And finally I was left with what I termed as “discretionary spend”, which is what I had to spend on things I had not already budgeted for.

And in order to make sure that I played within these rules, I “locked in” the moneys for the mandatory spends. I put aside thirty Euros in a separate compartment of my wallet (for the taxi fare home). I bought all the bus tickets for the day in the morning itself (Florence-Siena; Siena-Florence; Florence-Airport). And then I was left with twenty odd Euros, and this became my “discretionary spend” (my meals had to be funded from this one).

And so each expense was evaluated based on what I had in this discretionary expense budget. There were two pricing options at the Siena Cathedral (aka Duomo) – four Euros to see inside, and fifteen Euros to both see inside and climb the dome. My budgetary constraints made it a no-brainer (and I’m glad I saw the inside of the cathedral. The sheer diversity of art that hits you from all sides made it a brilliant experience). There were some chocolate shops all over the main square in Siena. Budget meant that I didn’t indulge in any of them.

Budget dictated where I ate (I was glad to bump into this really nice looking l’Aquila Trattoria and Pizzeria, and had excellent ravioli there) and drank (two Euros house wine, and not anything else). And a little left over allowed me to indulge on a second canoli for the day back when I was in Florence!

Overall it was an interesting experience. How would you do it if you were to travel on a budget?

And the trip ended with a scare. I had EUR 32.40 in my pocket when I got into the taxi at Barcelona airport. My three earlier taxi rides on that route had cost EUR 32, 31 and 27, so I couldn’t be entirely confident that I would manage it with what I had. I decided to get off early if the fare went beyond my budget, but that would be embarrassing. So I asked the wife to come down with some money, in case I needed a bailout.

As it transpired, I didn’t need the bailout. The fare was EUR 29.75.

Uber’s new pricing structure

So Uber has changed its pricing structure in Bangalore. Earlier they nominally charged Rs. 50 fixed, Rs. 15 per kilometer and Rs. 1 per minute, and then slapped a 35% discount on the whole amount. From today onwards the new fare structure is Rs. 30 fixed, Rs. 8 per kilometer and Rs. 1 per minute, without any further discounts. They’re marketing it using the Rs. 8 per kilometre number.

I took a ride this afternoon under the new fare structure, and the bill was Rs. 152, about the same as it would have been under the old fare structure. In that sense, I guess this was an “average ride”, in terms of the distance by time covered. This was the kind of ride where their assumption on distance travelled per unit time (in coming up with their new formula) was exactly obeyed!

So how do we compare the old and new formulae? We can start by applying the discount on the nominal numbers of the old formula. That gives us a fixed cost of Rs. 32.5, a per kilometer cost of Rs. 9.75 and a per minute cost per 65 paise. We can neglect the difference in fixed cost. Comparing this to the new cost structure, we find that the passenger now gets charged a lesser amount per kilometre, but a higher amount per minute.

In face, taking the “slope” between the old and new rates, the per kilometre cost has come down by Rs. 1.75 while the per minute cost has risen by 35 paise. Taking slope, this implies that Uber has assumed a pace of a kilometre per five minutes, or twelve kilometre per hour.

So if your journey is going to go slower than twelve kilometres per hour, on average, you will end up paying more than you used to earlier. If your journey is faster than twelve kilometres per hour, then you pay less than you did under the previous regime.

A few implications of the new fare structure are:

1. Peak hour journeys are going to cost more, for they are definitely going to go slower than twelve kilometres an hour
2. Your trips back from the pub should now be cheaper, for late nights when the roads are empty you’ll travel significantly faster than twelve kilometres an hour
3. What does this imply for the surge pricing in the above two cases? I think the odds of a surge during peak office hours will come down (since the “base price” of such a trip goes up, which will push down demand), and the odds of a surge late on a Friday or Saturday night might go up (since base fare has been pushed down for that).
4. The Rs. 30 fixed cost implies that if a driver travels at 12 km/hr when looking for a new ride, the gap between rides for a driver is 11.5 minutes (if the driver spends X minutes, he will travel X * 12/ 60 kilometres in that time. The compensation for this combination is X + X*12/60 * 8, which we can equate to 30. This gives us X = 11.54).
5. Trips to/from the airport will now be cheaper, for you can travel much faster than 12 km/hr on that route. So Uber will become even more competitive for airport runs. Again this might increase probability of a surge at peak flight times.

I continue to maintain that Uber has the most rational price structure among all on-demand taxi companies, since the fare structure fairly accurately mirrors drivers’ opportunity costs. Ola doesn’t charge for the easily measurable time, and instead charges for “waiting time”, which is not well defined. Ola also has a very high minimum fare (Rs. 150). I wonder how they’ll play it if their planned acquisition of TaxiForSure goes through, since TaxiForSure was playing on the short trip model (with minimum fares going as low as Rs. 49). Given the driver approval before a ride, though, I doubt if anyone actually manages to get a Rs. 49 ride from TaxiForSure.

Times continue to be interesting in the on-demand taxi market. We need to see how Ola responds to this pricing challenge by Uber!

Comparative advantage and competitive advantage

So there are two reasons why you could be employed. Comparative advantage and competitive advantage. Let me explain.

In international trade, there is a concept called “law of comparative advantage“. Let me explain with the classical (and simple) example. Robinson Crusoe is marooned on an island with Friday. Now, let us assume there are two productive activities on the island – catching fish and cutting wood. Now, Crusoe can catch 10 fish an hour, while Friday can catch 5. On the other hand, Crusoe can cut 3 trees an hour, while Friday can cut 2. Clearly Crusoe “dominates” Friday, and the latter is much more inefficient. So does that mean that Crusoe can just have Friday for dinner one day?

While the intuitive answer might be a “yes”, the law of comparative advantage shows otherwise. While Friday might be inferior to Crusoe in both activities, he is “less worse off” at chopping trees than he is at catching fish. For example, let us say that if left to himself, Crusoe would spend 3 hours fishing and 2 hours chopping wood every day. That would produce 30 fish and 6 trees of wood.

Now, if Crusoe were to spend all his 5 work hours exclusively catching fish, he will have 50 fish and no wood. He can trade the extra 20 fish for 8 logs of wood from Friday (Friday demands 5 fish for every 2 logs of wood, since that’s his opportunity cost). So net-net Crusoe is better off by 2 logs of wood. The trade similarly leaves Friday also better off (compared to the situation if he were alone on the island). Now you see why Friday keeps his job.

So in a “comparative advantage” job, you keep the job only because you make it easier for one or more colleagues to do more. You are clearly inferior to these colleagues in all the “components” of your job, but you don’t get fired only because you increase their productivity. You become the Friday to their Crusoe.

On the other hand, you can keep a job for “competitive advantage“. You are paid because there are one or more skills that the job demands in which you are better than your colleagues. You have a “competitive advantage” in those skills, and that is what you are paid for. Here you can expect to be treated better than your comparative advantage colleague would. You can even expect for some of your “comparative advantage” colleagues to be assigned to you to take your load off on those tasks you don’t enjoy a competitive advantage in. And again I’m not saying you need to “dominate” your colleagues. All you need is one “axis” along which you are clearly superior. And you’ll get the “competitive” treatment.

Pause for a moment and ask yourself why your job exists. Check if you work because you have a competitive advantage, or if it is merely because of the “comparative advantage” – that your presence frees up time for the more efficient people. If your job belongs to the latter category, I think you have reason to be more worried.

Compensating Teachers

This is yet another of those things which I’ve been thinking about and have been intending to write about for a long time but have never gotten down to it. Pinky wrote this excellent post on the topic today and that has got me thinking. To quote her,

A bad teacher makes a bad student. A teacher who looks at teaching as just another job is doing no good to anyone. She neither grows in her life nor contributes to the positive growth of a kid.There have been a few teachers in my life who i have tremendous respect for, not because they taught me effectively enough to pass in their subjects but because they taught me to listen, think and speak!

I don’t have any solutions yet but I thought I should just put some bullet points here, just to try and give a structure to the problem. Let me know your thoughts

If we consider a person’s salary as Society’s recognition of his/her worth, school teachers are not recognized enough
Abysmal salaries drive away a large number of potential school teachers away from the profession
Love for teaching is important, but if teaching pays as abysmally as it currently does, the opportunity cost of doing what you love is way too high for some people, and so they end up in other professions
We have a market failure in teaching – how do we run a school profitably while paying teachers competently while on the other hand keeping fees reasonable, and not resorting to any subsidies?
India suffers from what I call the “official’s wife bug”. In the 60s and 70s, the teaching profession got flooded by women who weren’t really looking to make much money, but more to just pass some time and use their bachelor’s degrees rather than being housewives. This has fostered a culture of low schoolteachers’ salaries in India. People who weren’t looking to make money out of teaching crowded out those who found the opportunity cost of the low salaries in teaching too high.
McKinsey interview level arithmetic: assume a school having classes 1 to 12, 4 sections per class, 40 students per section. 8 periods a day 5 days a week gives a total of 12 * 4 * 8 * 5 = 1920 periods per week. Assuming each teacher can take 5 classes a day (or 25 a week) we will need 77 (round it off to 80) teachers. Number of students is 12 * 4 * 40 = 1920, so essentially 25 students have to pay for one teacher’s salary, and this is apart from expenses towards school building, maintenance, overheads, etc. McKinsey level handwaving. 10 students have to pay for one teacher’s salary. Doesn’t sound feasible
Primary and secondary education is simply way too important to be left in the hands of unmotivated disinterested people, but that seems like the situation we are in (I dont’ mean to say all teachers are unmotivated or disinterested; just that the situation doesn’t incentivize talented motivated people to enter the profession).
Universities attract talent by allowing faculty to make money by other means such as consulting and organizing for-profit courses. Will something like that work for schools? And no, I’m not talking about private tuitinos as the other source of income. Is there something else?
Government intervention is not a solution. In a place like India it will only end up messing up things further and draining more money from the system.
In the pre-IT era, teaching salaries were more competitive (with respect to competing jobs) than they are now, so they could attract better talent
I wonder if it is only in India that such a large proportion of school teachers are women. This is just a general pertinent observation, and has nothing to do with the rest of the post
The officer’s wife model was good when it started off – some motivated people came into the system because fo that. Just that the system is not sustainable and we’re facing the problems of that now and because a lot of school managements fail to take into account that the model isn’t sustainable

Any thoughts on this? Any possible solutions? Of course it’s not possible to implement any macro-level solution. All I’m looking at is a school-level solution. How do you plan to run one school (of size I mentioned in my bullets) sustainably while ensuring teachers are paid adequately enough to not scare away interested people?

The Theory of Consistent Fuckability and Ladders for Men

Ok so the popular Ladder Theory states that men have only one ladder. It states that all men want to sleep with all women, and they simply rank every woman on the scale of how badly they want to sleep with her or whatever. Women, on the other hand, have two ladders – the “good” ladder, and the “friends” ladder, which allows them to get close to men without harbouring any romantic/sexual thoughts. Since men are incapable of exhibiting such behaviour, you get the concept of Gay Best Friend.

However, this absence of dual ladders for men exists only if you look at the short term. If you are a man and you are looking for a long-term relationship with genetic propagation as a part of your plans, I argue that the female twin ladders can be suitably modified in order to separate out “friends” from potential “bladees”. In order to aid this, I present the Theory of Consistent Fuckability.

From the ladder theory, we know that every man wants to sleep with every woman. For a fruitful, long-term, gene-propagating relationship, however, this is just a necessary but not sufficient condition. As I had argued in another post, given that divorce is usually messy, the biggest cost in getting married to someone is the opportunity cost of getting into long-term relationships with the rest of the population. And if you are involved in gene-propagation, it is ideal if neither of the propagators cheats on the partner – from the point of view of the child’s upbringging and all such jazz.

So if you are a man and you want to marry someone, you must be reasonably sure that you want to sleep with her on a consistent basis. You should be willing to do her every day. If not, there is a good chance that you might want to cheat on her at a later date, which is not ideal from your genes’ point of view.

A small digresssion here. You might ask what might happen to “ugly” women (basically women considered unattractive by a large section of men). However, the argument is that the market helps you find your niche. For example, if you want to cheat on a woman, there must be other women who are superior (on your scale) to this woman who want you to do them. Assuming that I am extremely unattractive and the fact that not too many “attractive” women will want to do me, I should be able to set my “consistent fuckability standard” appropriately.

Returning to the point, when you are evaluating a woman for MARRIAGE (note it doens’t apply to shorter term non-gene-propagating relationships), you will need to decide if you will want to have sex with her on a consistent basis. And based on the answer to this question, you can define the universe of all women into two – those that you want to do consistently and those that don’t. And they form your two ladders.

Now, reasonably independent (maybe there’s a positive low correlation on one of the ladders) of this consistent fuckability factor, you can evaluate the women on other factors such as emotional compatibility, strengths, weaknesses, culture fit and all that jazz. And rank them on those. And then use this distinction on the consistency factor and you will have your two ladders. So you have the “friends” ladder – which is differnet from the friends’ ladders of women in the sense that you want to sleep with them but not on a consistent basis. And there is the “good” ladder of those who you want to do consistently.

To summarize, consistent fuckability is a necessary but not sufficient condition for a fruitful, multiplicative, gene-propagating long-term relationship; and because of this, under certain circumstances, men also develop a pair of ladders.

Currently listening to: When I’m Sixty Four, The Beatles

Arranged Scissors 9 – Cost Benefit Analysis

Neha, also known as MotherJane, writes in her blog:

…I do not believe in love. Partners offer solutions to everyday issues like running a house, satisfying needs and filling in the blanks. However they come at a cost – often too high to bother. Still we go ahead and do the trade – its just what we do. In our lives friends become the people we talk and listen to, partners become people we are forced to talk and listen to, so that we can have everything else they offer. If you think about it, your relationship is already transactional. If calling it love makes easier on your conscience, I won’t hold you back.

I was trying to figure out how it all fits in with the arranged scissors process. And every time the answer came out that the Arranged Scissors process is fairly irrational.Mainly because of the short time for decision. A few basic checks are made, obvious misfits are checked for, and things get “done”.

The biggest cost of getting married (which Neha doesn’t mention) is the opportunity cost of the option of getting married to any of the other women in this world apart from your wife. Divorce is messy and expensive (in more ways than one), and hence once you have hitched yourself to someone, this opportunity cost immediately kicks in.

Later in her post, Neha talks about the “friends-with-benefits” model, but the problem with that is that it doesn’t help propagate your genes. It is tough to raise kids in that kind of an environment, and considering that the purpose of life is to procreate (this is the general case; i konw you may be an exception so don’t shout at me for this) the friends-with-benefits model is not stable. The reason the world has settled down into a model of bilateral commitment is to optimize the costs and benefits of propagating genes.

So if you want to propagate your genes (again, I’m not sure if you want to. If you don’t, I’d recommend you to settle down with the FWB model – but then it’s easier to find one stable counterparty rather than several FWBs, so you’d rather get married) you need to get into a bilateral commitment deal. And these deals are mutually exclusive so you need to realize that when you get into one, you will be foregoing the option of getting into any other.

There are several other costs and benefits when it comes to the marriage thing – there will be lifestyle changes, you get “tied down”, you need to take on responsibility, share duties and all that, but in my humble (and unmarried) opinion, the biggest cost is the opportunity cost.

I say this quite often (and this reminds me, I have a paper to write – which I’ve postponed for nine months now) but I think outside of the financial world, option value is generally underrated (even in finance options are more often than not undervalued since the most common pricing formula ignores fat tails). And in settling for a Common Minimum Programme in the arranged marriage market, people severely underestimate the value of the option value of the rest of the world.

So the next time you want to propose to someone, or want to answer “the question” in the affirmative, make sure you do the following:

Make a list of all the people in the world belonging to the opposite sex (gays feel free to generalize this)
Evaluate the option of marrying them. Your job will be quite easy because with respect to most people, either you don’t want to marry them or you know that the chance of them marrying you is so infinitesimally small that the option value is negligible
I’m sure there will be a number of peopl ewho you prefer to the person you are proposing to/saying yes to. If you think there is a nonzero chance of them saying yes to you, ask them. Rejection is cheaper than a lifetime of guilt
Once all the options have been evaluated, and an additional buffer term added to account for all the people you don’t know yet, you know the full value of the opportunity cost. Then add up the other costs and benefits, and then make your decision.

Typically to know the other costs and benefits of the person that you are currently evaluating, you need to know them rather well. Yes, you can draw a sample and estimate the population based on that, but the cost of a type 1 error (error of commission) is very high. So make sure you collect enough data. To collect enough data, make sure you give yourself enough time.

Ok now I don’t know the point of this post. I don’t even konw if it fits into the arranged scissors series, but I think I’ll let it stay. Changing the title is too messy. I think I wrote this to put fundaes about opportunity cost. Maybe I had something else in mind when I thought up this post, but then subsequently forgot the contents and remembered only the outline. In any case, I’ll stop here. Before that I’ll tell you for one last time that you need to keep track of option value, and opportunity cost.